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 September 29, 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 306,976,507 shares of common stock outstanding as of October 26, 2001.
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 September 29, December 30, 2001 2000 ----------- ----------- <S> <C> <C> ASSETS Current assets: Cash and cash equivalents $ 539,876 $ 151,482 Receivables, net 821,527 896,333 Merchandise inventories, net 1,100,398 1,420,825 Deferred income taxes and other current assets 174,812 230,449 ----------- ----------- Total current assets 2,636,613 2,699,089 Property and equipment, net 1,098,578 1,119,306 Goodwill and other assets, net 446,674 377,939 ----------- ----------- $ 4,181,865 $ 4,196,334 =========== =========== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 1,028,719 $ 1,136,994 Accrued expenses and other current liabilities 589,717 580,966 Income taxes payable 73,803 37,118 Current maturities of long-term debt 92,741 153,259 ----------- ----------- Total current liabilities 1,784,980 1,908,337 Deferred income taxes and other credits 66,335 88,247 Long-term debt, net of current maturities 318,755 374,061 Zero coupon, convertible subordinated notes 232,878 224,438 Commitments and contingencies Stockholders' equity: Common stock - authorized 800,000,000 shares of $.01 par value; issued 381,903,126 in 2001 and 378,688,359 in 2000 3,819 3,787 Additional paid-in capital 967,227 939,214 Unamortized value of long-term incentive stock grants (2,547) (2,793) Accumulated other comprehensive loss (64,894) (53,490) Retained earnings 1,677,454 1,516,691 Treasury stock, at cost - 82,189,049 shares in 2001 and 82,190,548 in 2000 (802,142) (802,158) ----------- ----------- 1,778,917 1,601,251 ----------- ----------- $ 4,181,865 $ 4,196,334 =========== =========== </TABLE> The accompanying notes are an integral part of these statements. 2
OFFICE DEPOT, INC. CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS (In thousands, except per share amounts) (Unaudited) <TABLE> <CAPTION> 13 Weeks Ended 39 Weeks Ended ----------------------------------- ----------------------------------- September 29, September 23, September 29, September 23, 2001 2000 2001 2000 ------------- ------------- ------------- ------------- <S> <C> <C> <C> <C> Sales $ 2,782,493 $ 2,822,991 $ 8,353,910 $ 8,521,498 Cost of goods sold and occupancy costs 1,973,965 2,087,769 5,999,813 6,197,117 ----------- ----------- ----------- ----------- Gross profit 808,528 735,222 2,354,097 2,324,381 Store and warehouse operating and selling expenses 569,507 549,200 1,708,291 1,654,940 General and administrative expenses 133,052 137,243 361,957 358,645 Other operating expenses (income), net 4,444 (354) 4,893 9,834 ----------- ----------- ----------- ----------- Operating profit 101,525 49,133 278,956 300,962 Other income (expense): Interest income 4,155 2,666 7,979 9,551 Interest expense (12,153) (9,318) (30,949) (23,584) Miscellaneous income (expense), net 2,565 39,310 (3,861) 59,899 ----------- ----------- ----------- ----------- Earnings before income taxes 96,092 81,791 252,125 346,828 Income taxes 33,632 31,169 91,362 129,233 ----------- ----------- ----------- ----------- Net earnings $ 62,460 $ 50,622 $ 160,763 $ 217,595 =========== =========== =========== =========== Earnings per common share: Basic $ 0.21 $ 0.17 $ 0.54 $ 0.69 Diluted 0.20 0.16 0.53 0.67 </TABLE> The accompanying notes are an integral part of these statements. 3
OFFICE DEPOT, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) (Unaudited) <TABLE> <CAPTION> 39 Weeks Ended --------------------------------- September 29, September 23, 2001 2000 ------------- ------------- <S> <C> <C> CASH FLOW FROM OPERATING ACTIVITIES: Net earnings $ 160,763 $ 217,595 Adjustments to reconcile net earnings to net cash provided by operating activities: Depreciation and amortization 146,879 144,634 Provision for losses on inventories and receivables 88,815 75,850 Changes in working capital 210,300 28,731 Loss (gain) on investment securities 8,500 (57,950) Write-down of impaired assets 26,079 -- Other operating activities, net 27,797 26,369 --------- --------- Net cash provided by operating activities 669,133 435,229 --------- --------- CASH FLOWS FROM INVESTING ACTIVITIES: Proceeds from maturities or sales of investment securities -- 54,006 Purchases of investments and other assets (52,481) (24,612) Capital expenditures (143,927) (185,473) Proceeds from sale of property and equipment 22,837 4,270 --------- --------- Net cash used in investing activities (173,571) (151,809) --------- --------- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from exercise of stock options and sale of stock under stock purchase plans 20,681 9,713 Acquisition of treasury stock -- (280,378) Proceeds from issuance of long-term debt 255,094 -- Payments on long- and short-term borrowings (373,700) -- Other financing activities, net -- 6,688 --------- --------- Net cash used in financing activities (97,925) (263,977) --------- --------- EFFECT OF EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS (9,243) (12,544) --------- --------- Net increase in cash and cash equivalents 388,394 6,899 Cash and cash equivalents at beginning of period 151,482 218,784 --------- --------- Cash and cash equivalents at end of period $ 539,876 $ 225,683 ========= ========= SUPPLEMENTAL DISCLOSURE OF OTHER CASH FLOW ACTIVITIES: Interest received $ 6,822 $ 9,112 Interest paid (20,322) (7,015) Income taxes paid (20,969) (116,464) SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES: Additional paid-in capital related to income tax benefits on stock options exercised $ 3,128 $ 482 Assets acquired under capital leases 6,041 12,569 Reversal of unrealized gain on investment securities, net of income taxes -- 62,128 </TABLE> The accompanying notes are an integral part of these statements. 4
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 condensed 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 September 29, 2001 and for the 13- and 39-week periods ending September 29, 2001 (also referred to as "the third quarter of 2001" and "year-to-date 2001," respectively) and September 23, 2000 (also referred to as "the third quarter of 2000" and "year-to-date 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 represents all non-owner changes in stockholders' equity and consists of the following: <TABLE> <CAPTION> Third Quarter Year-to-Date ---------------------------- ----------------------------- 2001 2000 2001 2000 --------- --------- --------- --------- <S> <C> <C> <C> <C> Net earnings $ 62,460 $ 50,622 $ 160,763 $ 217,595 Other comprehensive income, net of tax: Foreign currency translation adjustments 17,483 (9,850) (11,404) (25,692) Reversals of unrealized loss on investment securities -- (16,446) -- (62,128) --------- --------- --------- --------- Total comprehensive income $ 79,943 $ 24,326 $ 149,359 $ 129,775 ========= ========= ========= ========= </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 September 29, 2001 and December 30, 2000 totaled $21.4 million and $29.9 million, respectively. The decline in carrying value resulted from other than temporary impairments of $8.5 million ($5.4 million net of tax) recorded in the second quarter of 2001. 5
NOTE D - LONG-TERM DEBT In May 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 September 29, 2001, we had no outstanding borrowings under these agreements. Outstanding letters of credit at September 29, 2001 totaled $49.4 million. 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 September 29, 2001, the equivalent of $67.4 million was outstanding and classified as a current liability. We entered into a yen interest rate swap (for a notional amount equivalent to $19.0 million as of September 29, 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. In July 2001, the Company issued $250 million of seven year, non-callable, Senior Subordinated Notes due on July 15, 2008. The Notes contain provisions that, in certain circumstances, place financial restrictions or limitations on the Company. The Notes have a coupon interest rate of 10.00% and are payable semi-annually on January 15 and July 15. In August 2001, the Company entered into LIBOR-based variable rate swap agreements with notional amounts aggregating $250 million that qualify for shortcut hedge accounting. NOTE E - EARNINGS PER SHARE ("EPS") The information required to compute basic and diluted EPS is as follows: <TABLE> <CAPTION> Third Quarter Year-to-Date ------------------------ ------------------------ 2001 2000 2001 2000 -------- -------- -------- -------- <S> <C> <C> <C> <C> Basic: Weighted average number of common shares outstanding 298,375 304,111 297,185 313,804 ======== ======== ======== ======== Diluted: Net earnings $ 62,460 $ 50,622 $160,763 $217,595 Interest expense related to convertible notes, net of income taxes 1,855 3,238 5,374 9,594 -------- -------- -------- -------- Adjusted net earnings $ 64,315 $ 53,860 $166,137 $227,189 ======== ======== ======== ======== Weighted average number of common shares outstanding 298,375 304,111 297,185 313,804 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 5,374 1,363 3,508 2,164 -------- -------- -------- -------- Shares used in computing diluted EPS 317,594 330,215 314,538 340,709 ======== ======== ======== ======== </TABLE> Options to purchase 15.6 million shares of common stock were not included in our computation of diluted earnings per share for the third quarter of 2001, because their weighted average effect would have been antidilutive. 6
NOTE F - SEGMENT INFORMATION The following is a summary of our significant accounts and balances by segment, reconciled to consolidated totals. <TABLE> <CAPTION> Sales ----------------------------------------------------------------------------- Third Quarter Year-to-Date --------------------------------- --------------------------------- 2001 2000 2001 2000 ----------- ----------- ----------- ----------- <S> <C> <C> <C> <C> North American Retail Division $ 1,469,460 $ 1,587,093 $ 4,364,926 $ 4,798,846 Business Services Group 947,171 899,187 2,841,929 2,653,829 International Division 366,658 337,553 1,149,327 1,071,622 ----------- ----------- ----------- ----------- Total reportable segments 2,783,289 2,823,833 8,356,182 8,524,297 Eliminations (796) (842) (2,272) (2,799) ----------- ----------- ----------- ----------- Total $ 2,782,493 $ 2,822,991 $ 8,353,910 $ 8,521,498 =========== =========== =========== =========== </TABLE> <TABLE> <CAPTION> Earnings Before Income Taxes --------------------------------------------------------------------- Third Quarter Year-to-Date ----------------------------- ----------------------------- 2001 2000 2001 2000 --------- --------- --------- --------- <S> <C> <C> <C> <C> North American Retail Division $ 84,957 $ 83,230 $ 242,215 $ 337,469 Business Services Group 90,439 54,023 222,209 182,087 International Division 61,807 46,387 179,118 143,375 --------- --------- --------- --------- Total reportable segments 237,203 183,640 643,542 662,931 Eliminations and other (141,111) (101,849) (391,417) (316,103) --------- --------- --------- --------- Total $ 96,092 $ 81,791 $ 252,125 $ 346,828 ========= ========= ========= ========= </TABLE> <TABLE> <CAPTION> Assets ------------------------------------------ September 29, December 30, 2001 2000 ------------- ------------ <S> <C> <C> North American Retail Division $1,690,446 $2,184,976 Business Services Group 1,190,334 1,105,936 International Division 851,251 736,229 ---------- ---------- Total reportable segments 3,732,031 4,027,141 Other 449,834 169,193 ---------- ---------- Total $4,181,865 $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> Third Quarter Year-to-Date ----------------------------- ----------------------------- 2001 2000 2001 2000 --------- --------- --------- --------- <S> <C> <C> <C> <C> Total from reportable segments $ 237,203 $ 183,640 $ 643,542 $ 662,931 General and administrative expenses (133,052) (137,243) (361,957) (358,645) Gain (loss) on investment securities -- 38,990 (8,500) 57,950 Interest (expense) income, net (7,998) (6,652) (22,970) (14,033) Other (expense) income, net 119 3,177 2,270 (1,204) Inter-segment transactions (180) (121) (260) (171) --------- --------- --------- --------- Total $ 96,092 $ 81,791 $ 252,125 $ 346,828 ========= ========= ========= ========= </TABLE> 7
NOTE G - NEW ACCOUNTING PRONOUNCEMENTS In July 2001, the Financial Accounting Standards Board ("FASB") 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 nine months ended September 29, 2001, the Company has recognized $5.4 million of goodwill amortization. In July 2001, the FASB issued Statement No. 143, ACCOUNTING FOR ASSET RETIREMENT OBLIGATIONS. This Statement requires capitalizing any retirement costs as part of the total cost of the related long-lived asset and subsequently allocating the total expense to future periods using a systematic and rational method. Adoption of this Statement is required for fiscal years beginning after June 15, 2002. The Company has not yet completed its evaluation of the impact of the adoption of this Statement. In October 2001, the FASB issued Statement No. 144, ACCOUNTING FOR THE IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS. This Statement supersedes Statement No. 121 but retains many of its fundamental provisions. Additionally, this Statement expands the scope of discontinued operations to include more disposal transactions. The provisions of this Statement are effective for financial statements issued for fiscal years beginning after December 15, 2001. The Company has not yet completed its evaluation of the impact this Statement will have when adopted. 8
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 Third quarter net earnings of $62.5 million were 23% higher than the prior year, while year-to-date net earnings of $160.8 million were 26% lower than last year. Net earnings for the quarter increased, despite a soft U.S. economy and the slowdown that followed the events of September 11. Gross profit margins improved across the Company, as sales shifted away from lower-margin technology products. Additionally, management continued its focus on controllable operating and selling expenses. Results for the third quarter and nine months of 2001 included a $10.2 million pre-tax gain on the sale of certain warehouse property and charges of $37.9 million for the quarter and $38.3 million for the nine months, primarily related to asset impairments and the resolution of certain non-recurring employee claims. Included in 2000 results were charges of $24.4 million for the third quarter and $33.7 million for the nine months, primarily for severance costs associated with a number of changes in the Company's senior management and gains of $39.0 million for the quarter and $58.0 million for the nine months relating to the sale of certain Internet investments. 9
OVERALL ------- (in millions) <TABLE> <CAPTION> Third Quarter Year-to-Date ------------------------------------------- ------------------------------------------- 2001 2000 2001 2000 ------------------- ------------------- ------------------- ------------------- <S> <C> <C> <C> <C> <C> <C> <C> <C> Sales $ 2,782.5 100.0% $ 2,823.0 100.0% $ 8,353.9 100.0% $ 8,521.5 100.0% Cost of goods sold and occupancy costs 1,974.0 71.0% 2,087.8 74.0% 5,999.8 71.8% 6,197.1 72.7% --------- --------- --------- --------- Gross profit 808.5 29.0% 735.2 26.0% 2,354.1 28.2% 2,324.4 27.3% Operating and selling expenses 569.5 20.4% 549.2 19.4% 1,708.3 20.5% 1,655.0 19.4% --------- --------- --------- --------- Store and warehouse operating profit $ 239.0 8.6% $ 186.0 6.6% $ 645.8 7.7% $ 669.4 7.9% ========= ========= ========= ========= </TABLE> Both overall sales and comparable sales in facilities open for more than one year decreased 1% in the third quarter and 2% on a year-to-date basis. Sales have been adversely affected by the slowing U.S. economy throughout 2001. Additionally, the Company estimates that the economic uncertainties following September 11 further reduced sales by $58 million. While overall Company sales decreased, sales through our e-commerce channels increased significantly. Worldwide e-commerce sales grew 60% to $402.0 million during the quarter and 69% to $1.1 billion for the first nine months of 2001. These e-commerce sales are comprised of all online sales for the Company's worldwide operations, 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 international Web sites. For business segment reporting purposes, these sales are captured within the appropriate business segment. NORTH AMERICAN RETAIL DIVISION ------------------------------ (in millions) <TABLE> <CAPTION> Third Quarter Year-to-Date ------------------------------------------- ------------------------------------------- 2001 2000 2001 2000 ------------------- ------------------- ------------------- ------------------- <S> <C> <C> <C> <C> <C> <C> <C> <C> Sales $ 1,469.5 100.0% $ 1,587.1 100.0% $ 4,364.9 100.0% $ 4,798.8 100.0% Cost of goods sold and occupancy costs 1,110.6 75.6% 1,257.3 79.2% 3,359.9 77.0% 3,729.3 77.7% --------- --------- --------- --------- Gross profit 358.9 24.4% 329.8 20.8% 1,005.0 23.0% 1,069.5 22.3% Operating and selling expenses 270.8 18.4% 244.0 15.4% 757.4 17.4% 723.9 15.1% --------- --------- --------- --------- Store and warehouse operating profit $ 88.1 6.0% $ 85.8 5.4% $ 247.6 5.6% $ 345.6 7.2% ========= ========= ========= ========= </TABLE> 10
Total North American Retail Division sales, as well as comparable sales in the 792 stores that have been open for more than one year, declined 7% in the third quarter of 2001 and 9% in the first nine months of 2001. The Company estimates that the events following September 11 negatively impacted third quarter retail sales by approximately $35 million. In addition, the slowing of the U.S. economy has had an adverse effect on our year-to-date sales and could continue to affect sales during the fourth quarter. Sales of technology hardware and software products, collectively, were down 25% in both the third quarter and first nine months of 2001. While sales have declined, third quarter gross profit as a percent of sales increased to 24.4%, as our product mix continued the shift away from lower margin technology products and we experienced improved margins on Back-to-School products. In addition, quarter-over-quarter comparisons were easier because of last year's paper, ink and toner price reductions. Gross margins for the year-to-date period increased as a percentage of sales, but were adversely affected by promotional pricing used during the first quarter of 2001 to complete targeted product line reductions. Operating costs as a percentage of sales increased for the third quarter, reflecting the loss of leverage from negative retail sales growth and from costs totaling $26.1 million ($17.0 million after tax benefits) primarily related to the write-down of assets in certain stores. These costs were related to asset impairments in 23 stores, a majority of which did not have sufficient operating performance at the time we completed our comprehensive business review in the latter months of 2000 to warrant action. During the third quarter, we opened 17 new retail stores, net of closures, in 10 states and one Canadian Province. At the end of the quarter, Office Depot operated a total of 846 retail stores throughout the United States and Canada. During the first nine months of 2001, a chain-wide re-merchandising program was completed. This program included a reduction in slow-moving products and improved product adjacencies; more informative signage; increased availability of private label merchandise; and the addition of customer-friendly reference charts on technology products. BSG --- (in millions) <TABLE> <CAPTION> Third Quarter Year-to-Date ------------------------------------------- ------------------------------------------- 2001 2000 2001 2000 ------------------- ------------------- ------------------- ------------------- <S> <C> <C> <C> <C> <C> <C> <C> <C> Sales $ 947.1 100.0% $ 899.2 100.0% $ 2,841.9 100.0% $ 2,653.8 100.0% Cost of goods sold and occupancy costs 643.7 68.0% 627.4 69.8% 1,951.0 68.7% 1,823.5 68.7% ------- -------- --------- --------- Gross profit 303.4 32.0% 271.8 30.2% 890.9 31.3% 830.3 31.3% Operating and selling Expenses 211.7 22.3% 216.5 24.1% 664.8 23.4% 644.3 24.3% ------- -------- --------- --------- Store and warehouse operating profit $ 91.7 9.7% $ 55.3 6.1% $ 226.1 7.9% $ 186.0 7.0% ======= ======== ========= ========= </TABLE> BSG sales increased 5% in the third quarter of 2001 and 7% in the first nine months of 2001. Included in our third quarter sales for the first time were the sales of 4Sure.com, our newly acquired Internet-based technology business. Excluding sales from 4Sure.com, BSG third quarter sales increased 3%. Contract and Commercial sales for the third quarter have shown some declines, 11
particularly in regions affected by the slowing U.S. economy, and this trend could continue into the fourth quarter. Although BSG experienced some declines for the quarter and year-to-date in furniture and technology product sales, these declines were more than offset by increases in office supplies, paper and business machines. We believe that the events following September 11 negatively impacted BSG sales for the remainder of the third quarter by approximately $15 million. Gross profit as a percent of sales increased to 32.0% for the quarter, bringing the year-to-date percentage in line with the prior year. This increase was partly attributed to our adherence to volume-dependent pricing programs. Operating and selling expenses as a percent of sales improved on a year-over-year and sequential basis as a result of our focus on productivity and efficiency, and tighter controls over discretionary spending. 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. The combined impact of the above improvements produced a year-to-date operating profit increase of 22%. INTERNATIONAL DIVISION ---------------------- (in millions) <TABLE> <CAPTION> Third Quarter Year-to-Date ------------------------------------------- ------------------------------------------- 2001 2000 2001 2000 ------------------- ------------------- ------------------- ------------------- <S> <C> <C> <C> <C> <C> <C> <C> <C> Sales $ 366.7 100.0% $ 337.6 100.0% $ 1,149.3 100.0% $ 1,071.6 100.0% Cost of goods sold and occupancy costs 219.9 60.0% 203.6 60.3% 690.1 60.0% 645.9 60.3% -------- ------- --------- -------- Gross profit 146.8 40.0% 134.0 39.7% 459.2 40.0% 425.7 39.7% Operating and selling expenses 87.4 23.8% 89.0 26.4% 286.9 25.0% 287.7 26.8% -------- ------- --------- -------- Store and warehouse operating profit $ 59.4 16.2% $ 45.0 13.3% $ 172.3 15.0% $ 138.0 12.9% ======= ======= ======== ======== </TABLE> Sales in the International Division increased 9% (12% in local currency) in the third quarter of 2001 and 7% (15% in local currency) in the first nine months of 2001, with all countries reporting increased sales in local currencies for both the quarter and year-to-date. Unfavorable exchange rates impacted third quarter sales by approximately $12.5 million and year-to-date sales by $81.1 million compared to unfavorable impacts of $36.2 million and $89.9 million, respectively, for the corresponding prior year periods. The events which followed the tragedies of September 11 affected sales in our larger European countries, resulting in an estimated $8 million reduction for the quarter. Gross profit as a percent of sales increased for both the third quarter and first nine months as a result of 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 half of the year. These gross profit improvements were partially offset by the introduction of our lower margin contract sales in the U.K., Ireland and The Netherlands. Operating profit in the International Division increased 32% (35% in local currency) for the third quarter and 25% (33% in local currency) for the first nine months of 2001. Improvements in cost control and sales increases were slightly offset on a year-to-date basis by the start-up costs for our contract business in the U.K., Ireland and The Netherlands, 12
and the integration of an acquired contract business in Australia. Included in the third quarter operating profit was a gain of $10.2 million ($6.7 million after tax) related to the sale of our London warehouse. In August, these operations were relocated to a new 320,000 square foot facility designed to better serve the U.K.'s growing multi-channel business. Excluding this gain, third quarter operating profit was $49.2 million or 13% of sales. Operating profits were negatively impacted by unfavorable exchange rates totaling $0.9 million in the third quarter and $10.2 million in the first nine months of 2001, compared to $5.7 million and $14.2 million in the third quarter and first nine months of 2000, respectively. CORPORATE AND OTHER Income and expenses not allocated to the store and warehouse operating profit of our business segments consist of pre-opening expenses, general and administrative expenses, our share of the earnings (losses) of our joint ventures, amortization of goodwill, interest income and expense, income taxes and inter-segment transactions. INTEREST INCOME AND EXPENSE: Interest income reflects higher cash balances in the third quarter and, for the nine months, lower earnings rates. Interest expense reflects increased borrowings on our bank credit facility during the beginning of the year as well as the $250 million in Notes issued in July 2001. MISCELLANEOUS INCOME (EXPENSE): Miscellaneous income, net, for the third quarter and nine months of 2000 primarily reflect gains on the sale of Internet investments. INCOME TAXES: The effective rate for the third quarter declined to 35% and reflects the Company's anticipated domestic and foreign tax expense, given existing tax planning strategies. LIQUIDITY AND CAPITAL RESOURCES Operating cash flows for the first nine months of 2001 were $233.9, or 54%, 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 $256.8 million, reflecting increased inventory turnover and our SKU reduction program. Additionally, improved collections led to a decrease in accounts receivable. During the first nine months of 2001, capital expenditures decreased $41.5 million or 22%, primarily from fewer store openings and closely scrutinizing capital expenditures with an emphasis on improving our return on assets. We opened 28 stores during the first nine months of 2001, compared to 48 during the same period of 2000. We anticipate higher capital expenditures in the fourth quarter of 2001 compared to the first nine months. We currently project opening approximately 45 stores during 2001. During the first nine months of 2001, we made payments of $373.7 million on our short- and long-term domestic bank borrowings. As a result, total borrowings as of September 29, 2001 consisted solely of the equivalent of $67.4 million 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 nine months of 2000, we repurchased $280 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 July 2001, the Company completed the issuance of $250 million of senior subordinated Notes, due July 15, 2008. (See Note D of the Notes to the Condensed Consolidated Financial Statements for more information regarding these Notes.) In October 2001, the Board of Directors authorized the Company to repurchase up to $50 million of its common stock annually. The repurchased shares will be added to the Company's Treasury Shares and will be used to meet the Company's near term requirements for its stock option and other benefit plans. 13
NEW ACCOUNTING PRONOUNCEMENTS In July 2001, the Financial Accounting Standards Board ("FASB") 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 nine months ended September 29, 2001, the Company has recognized $5.4 million of goodwill amortization. In July 2001, the FASB issued Statement No. 143, ACCOUNTING FOR ASSET RETIREMENT OBLIGATIONS. This Statement requires capitalizing any retirement costs as part of the total cost of the related long-lived asset and subsequently allocating the total expense to future periods using a systematic and rational method. Adoption of this Statement is required for fiscal years beginning after June 15, 2002. The Company has not yet completed its evaluation of the impact of the adoption of this Statement. In October 2001, the FASB issued Statement No. 144, ACCOUNTING FOR THE IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS. This Statement supersedes Statement No. 121 but retains many of its fundamental provisions. Additionally, this Statement expands the scope of discontinued operations to include more disposal transactions. The provisions of this Statement are effective for financial statements issued for fiscal years beginning after December 15, 2001. The Company has not yet completed its evaluation of the impact this Statement will have when adopted. 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. 14
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, and the events of September 11 have further exacerbated the situation. The retail industry, in general, is displaying signs of a slowdown, both in and outside our industry segment, with many companies reporting earnings shortfalls compared to market expectations over the last several months. This general economic slowdown negatively impacted our results during the second half of 2000 and the first nine months 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. 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 our competitors. INTERNATIONAL ACTIVITY We operate in a number of international markets and intend to continue entering other 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 in 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. These risks could have a material adverse effect on our business and operating results. 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. 15
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 during the last nine months, 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. 3.1 Amended and Restated By-laws of Office Depot, Inc. b. 1. A Current Report on Form 8-K was filed on August 23, 2001 regarding a third quarter 2001 mid-quarter performance update. 2. A Current Report on Form 8-K was filed on September 5, 2001 regarding certain management remarks made at analyst conferences. 3. A Current Report on Form 8-K was filed on October 2, 2001 regarding an update to investors on the Company's sales performance for the third quarter of 2001. 4. A Current Report on Form 8-K was filed on October 17, 2001 regarding a press release issued to announce our third quarter 2001 results, and a second press release to announce certain management changes. 5. A Current Report on Form 8-K was filed on October 26, 2001 regarding a press release announcing the extension of offer to exchange Senior Subordinated Notes for Registered Senior Subordinated Notes, and a second press release announcing a new stock repurchase program. 16
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: November 2, 2001 By: /s/ Charles E. Brown ------------------------------------- Charles E. Brown Executive Vice President, Finance and Chief Financial Officer (Principal Financial Officer) Date: November 2, 2001 By: /s/ James A. Walker -------------------------------------- James A. Walker Senior Vice President, Finance and Controller (Principal Accounting Officer) 17
INDEX TO EXHIBITS Exhibit No. Description ----------- ----------- 3.1 Amended and Restated Bylaws of Office Depot, Inc. 18