This report should be read in conjunction with the Notes to Condensed Consolidated Financial Statements herein and the Notes to Consolidated Financial Statements in the Office Depot, Inc. Form 10-K filed February 27, 2019 (the “2018 Form 10-K”).
This report should be read in conjunction with the Notes to Condensed Consolidated Financial Statements herein and the Notes to Consolidated Financial Statements in the 2018 Form 10-K.
This report should be read in conjunction with the Notes to Condensed Consolidated Financial Statements herein and the Notes to Consolidated Financial Statements in the 2018 Form 10-K.
This report should be read in conjunction with the Notes to Condensed Consolidated Financial Statements herein and the Notes to Consolidated Financial Statements in the 2018 Form 10-K.
This report should be read in conjunction with the Notes to Condensed Consolidated Financial Statements herein and the Notes to Consolidated Financial Statements in the 2018 Form 10-K.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
Office Depot, Inc. including its consolidated subsidiaries (“Office Depot” or the “Company”), is a leading provider of business services and supplies, products and technology solutions. Through its banner brands Office Depot®, OfficeMax®, CompuCom® and Grand&Toy®, the Company offers its customers the tools and resources they need to focus on starting, growing and running their business. The Company’s common stock is traded on the NASDAQ Global Select Market under the ticker symbol ODP. The Company’s corporate headquarters is located in Boca Raton, FL, and its primary website is www.officedepot.com.
As of March 30, 2019, the Company had three reportable segments (or “Divisions”): Business Solutions Division, Retail Division and the CompuCom Division. The CompuCom Division was formed after the acquisition of CompuCom Systems, Inc. (“CompuCom”) on November 8, 2017 and reflects the operations of that business.
The Condensed Consolidated Financial Statements as of March 30, 2019, and for the 13-week period ended March 30, 2019 (also referred to as the “first quarter of 2019”) and March 31, 2018 (also referred to as the “first quarter of 2018”) are unaudited. However, in management’s opinion, these Condensed Consolidated Financial Statements reflect all adjustments of a normal recurring nature necessary to provide a fair presentation of the Company’s financial position, results of operations and cash flows for the periods presented. Business acquisitions in 2018 and 2019 are included prospectively from the date of acquisition, thus affecting the comparability of the Company’s financial statements for all periods presented in this report on Form 10-Q.
The Company has prepared the Condensed Consolidated Financial Statements included herein pursuant to the rules and regulations of the U.S. Securities and Exchange Commission (“SEC”). Some information and note disclosures, which would normally be included in comprehensive annual financial statements prepared in accordance with accounting principles generally accepted in the United States (“GAAP”), have been condensed or omitted pursuant to those SEC rules and regulations. The preparation of these Condensed Consolidated Financial Statements requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. For a better understanding of the Company and its Condensed Consolidated Financial Statements, the Company recommends reading these Condensed Consolidated Financial Statements in conjunction with the audited financial statements, which are included in the Company’s 2018 Form 10-K. These interim results are not necessarily indicative of the results that should be expected for the full year.
Cash Management
The cash management process generally utilizes zero balance accounts which provide for the settlement of the related disbursement and cash concentration accounts on a daily basis. As of March 30, 2019 and December 29, 2018, Trade accounts payable and Accrued expenses and other current liabilities, in the aggregate, included $32
million and $27 million, respectively, of amounts not yet presented for payment drawn in excess of disbursement account book balances, after considering offset provisions.
At March 30, 2019, cash and cash equivalents from continuing operations held outside the United States amounted to $145 million.
Restricted Cash
Restricted cash consists primarily of short-term cash deposits having original maturity dates of twelve months or less that serve as collateral to certain of the Company’s letters of credit. Restricted cash is valued at cost, which approximates fair value. At March 30, 2019 and December 29, 2018, restricted cash amounted to $2 million and is included in Prepaid expenses and other current assets in the Condensed Consolidated Balance Sheets.
Leasing Arrangements
The Company conducts a substantial portion of its business in leased properties. Some of the Company’s leases contain escalation clauses and renewal options. The Company recognizes rental expense for operating leases that contain predetermined fixed escalation clauses on a straight-line basis over the expected term of the lease.
Prior to the adoption of the new lease accounting standard on the first day of fiscal 2019, the expected term of a lease was calculated from the date the Company first took possession of the facility, including any periods of free rent, and extended through the non-cancellable period and any option or renewal periods management believed were reasonably assured of being exercised. Rent abatements and escalations were considered in the calculation of minimum lease payments in the Company’s lease classification assessment and in determining straight-line rent expense for operating leases. Straight-line rent expense was also adjusted to reflect any allowances or reimbursements provided by the lessor. When required under lease agreements, estimated costs to return facilities to original condition were accrued over the lease period.
8
OFFICE DEPOT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) – (Continued)
Subsequent to the adoption of the new
lease accounting
standard, the Company determines if an arrangement is a lease at inception. Operating leases are inclu
ded in Operating lease right-of-use (“ROU”) assets, Accrued expenses and other current liabilities, and Operating lease liabilities on the
Condensed C
onsolidated
B
alance
S
heet as of March 30, 2019. Finance leases are included in Property and equipment, net
, Short-term borrowings and current maturities of long-term debt, and Long-term debt, net of current maturities on the
Condensed C
onsolidated
B
alance
S
heet
as of March 30, 2019
.
ROU assets represent the Company’s
right to use an underlying asset for the lease term and lease liabilities represent the Company’s obligation to make lease payments arising from the lease.
Operating lease ROU assets and liabilities are recognized
at commencement date
based on the present
value of the future minimum lease payments over the lease term. As
the rate implicit in the lease is not readily determinable for most of the leases
, the Company has utilized its incremental borrowing rate based on the information available at commencemen
t date in determining the present value of future payments.
The Company uses the rate of interest that a lessee would have to pay to borrow on a collateralized basis over a similar term in an amount equal to the lease payments in a similar economic environ
ment.
The operating lease ROU asset also includes any lease payments made
prior to commencement
and excludes lease incentives and initial direct costs incurred. Certain leases include one or more option
s
to renew, with renewal terms tha
t
can extend the lea
se from five to 25 years or more, which is generally at the Company’s discretion.
Any option or renewal periods management believed were reasonably
certain
of being exercised are included in the lease term.
Operating l
ease expense for lease payments is rec
ognized on a straight-line basis over the lease term.
The Company has lease agreements with lease and non-lease components, for which it has made an accounting policy election to account for these as a single lease component. Refer to the “New Accounting Standards” section below for more information relating to the adoption of the new lease accounting standard.
New Accounting Standards
Standards that are not yet adopted
Cloud computing arrangements
In August 2018, the Financial Accounting Standards Board (“FASB”) issued an accounting standard update that provides guidance regarding the accounting for implementation costs in cloud computing arrangements. This accounting update is effective for fiscal years beginning after December 15, 2019 and interim periods within those fiscal years, with early adoption permitted. The Company is evaluating the impact of this new standard and believes the adoption will not have a material impact on its Consolidated Financial Statements.
Defined benefit plan
In August 2018, the FASB issued an accounting standard update that modifies the disclosure requirements for employers that sponsor defined benefit pension or other postretirement plans. This accounting update is effective for fiscal years beginning after December 15, 2020 and interim periods within those fiscal years, with early adoption permitted. The Company is evaluating the impact of this new standard and believes the adoption will not have a material impact on its Consolidated Financial Statements.
Fair value measurements
In August 2018, the FASB issued an accounting standard update that adds, removes, and modifies the disclosure requirements related to fair value measurements. This accounting update is effective for fiscal years beginning after December 15, 2019 and interim periods within those fiscal years, with early adoption permitted. The Company is evaluating the impact of this new standard and believes the adoption will not have a material impact on its Consolidated Financial Statements.
Standards that were adopted
Leases
In February 2016, the FASB issued an accounting standards update that requires lessees to recognize most leases on their balance sheets related to the rights and obligations created by those leases. The accounting treatment for finance leases and lessors remains relatively unchanged. The accounting standards update also requires additional qualitative and quantitative disclosures related to the nature, timing and uncertainty of cash flows arising from leases. The initial standard required a modified retrospective transition approach, with application, including disclosures, in all comparative periods presented. In July 2018, the FASB approved an amendment to the new guidance that introduced an alternative modified retrospective transition approach granting companies the option of using the effective date of the new standard as the date of initial application. The Company adopted the standard on the first day of the first quarter of 2019 using this alternative transition approach.
9
OFFICE DEPOT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) – (Continued)
The Company
elected the transition package of practical expedients that is permitted by the standard. The package of practical expedients allows the Company to not reassess previous accounting conclusions regarding whether existing arrangements are or contain leases,
the classification of existing leases, and the treatment of initial direct costs. The Company did not elect the hindsight transition practical expedient allowed for by the new standard, which allows entities to use hindsight when determining lease term an
d impairment of
ROU
assets. Additionally, the Company elected certain other practical expedients offered by the new standard which it will apply to all asset classes, including the option not to separate lease and non-lease components and instead to accoun
t for them as a single lease component and the option not to recognize
ROU
assets and related liabilities that arise from short-term leases (i.e., leases with terms of twelve months or less
that do not include an option to purchase the underlying asset tha
t the Company is reasonably certain to exercise
).
Substantially all of the Company’s retail store locations, supply chain facilities, certain corporate facilities and copy print equipment are subject to operating lease arrangements. As a result, the standard had material impacts on the Condensed Consolidated Balance Sheet, but did not have an impact on the Condensed Consolidated Statement of Operations and Condensed Consolidated Statement of Cash Flows. The most significant impacts of the standard on the Condensed Consolidated Balance Sheet on the date of adoption were as follows:
|
•
|
Recognition of $1.4 billion Operating lease right-of-use assets and $1.6 billion
Operating
lease liabilities;
|
|
•
|
Derecognition of approximately $41 million of Property and equipment, net and $39 million
of financing obligations associated with non-owned properties that were capitalized under previously existing build-to-suit lease accounting rules;
|
|
•
|
Cumulative effect of $15 million adoption date adjustments to Accumulated deficit comprised of a $20 million impairment charge, net of tax effect, to the ROU assets, primarily because the fair market value of
certain retail stores was lower than their carrying value prior to the adoption date; $4 million
deferred gain, net of tax effect, related to transactions accounted for as sales and operating leasebacks under the previous lease standard; and a $1 million credit, net of tax effect, arising from the derecognition of assets and liabilities associated with non-owned properties that were capitalized under previously existing build-to-suit lease accounting rules.
|
As part of its adoption of the new lease accounting standard, the Company also implemented new internal controls and updated accounting policies and procedures, operational processes and documentation practices to enable the preparation of financial information on adoption. Refer to Note 8 for additional disclosures required as a result of the adoption of this new standard.
NOTE 2. ACQUISITIONS
Since 2017, the Company has been undergoing a strategic business transformation to pivot into an integrated business-to-business (“B2B”) distribution platform, with the objective of expanding its product offerings to include value-added services and capture greater market share. As part of this transformation, the Company acquired two businesses during the first quarter of 2019. These two acquisitions consist of small independent regional
office supply distribution businesses that continue to expand the Company’s reach and distribution network into geographic areas that were previously underserved.
The aggregate total purchase consideration, including contingent consideration, for the acquisitions completed in the first quarter of 2019 was approximately $7 million, subject to certain customary post-closing adjustments. The aggregate purchase price was primarily funded with cash on hand, with the remainder consisting of contingent consideration, estimated to be less than $1 million, to be paid in the first quarter of 2020. The acquisitions were treated as purchases in accordance with ASC 805, Business Combinations (“ASC 805”) which requires allocation of the purchase price to the estimated fair values of assets and liabilities acquired in the transaction including goodwill and other intangible assets. The Company has performed a preliminary purchase price allocation of the aggregate purchase price to the estimated fair values of assets and liabilities acquired in the transactions, including $1 million of customer relationship intangible assets and $5 million of goodwill. The remaining aggregate purchase price was primarily allocated to working capital accounts. These assets and liabilities are included in the balance sheet as of March 30, 2019. As additional information is obtained about these assets and liabilities within the measurement period (not to exceed one year from the dates of acquisition), the Company will refine its estimates of fair value to allocate the purchase price. Changes in fair value of the contingent consideration may result in additional transaction related expenses. The operating results of the office supply distribution businesses are combined with the Company’s operating results subsequent to their purchase dates, and are included in the Business Solutions Division. Certain disclosures set forth under ASC 805, including supplemental pro forma financial information, are not disclosed because the operating results of the acquired businesses, individually and in the aggregate, are not material to the Company.
10
OFFICE DEPOT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) – (Continued)
During 2018, the Company recognized a contingent consideration liability
of $25 million in connection with the acquisition of an
enterprise IT solutions integrator and managed services provider.
In the first quarter of 2019, the Company
paid $23 million of the
contingent consideration liability,
of which $12 million was treated as a financing cash outflow because it related to the acquisition-date accrual, and $11 million was presented as a cash
outflow from operating activities as it was accrued subsequent to the acquisition date based on new information obtained on the financial performance of the acquired entity. The
remaining $2 million
of this contingent consideration liability will be
paid i
n the fourth quarter of 2019
and will be treated as a cash outflow from operating activities
.
Based on new information received, the preliminary purchase price allocations of the companies acquired in 2018 have been adjusted during the respective measurement periods. These adjustments were insignificant individually and in the aggregate to the Company’s Condensed Consolidated Financial Statements.
Under the guidance on accounting for business combinations, merger and integration costs are not included as components of consideration transferred, instead, they are accounted for as expenses in the period in which the costs are incurred. Transaction-related expenses are included in the Merger and restructuring expense, net line in the Condensed Consolidated Statements of Operations. Refer to Note 3 for additional information about the merger and restructuring expenses incurred during the first quarter of 2019.
NOTE 3. MERGER AND RESTRUCTURING ACTIVITY
Since 2017, the Company has taken actions to optimize its asset base and drive operational efficiencies. These actions include acquiring profitable businesses, closing
underperforming retail stores and non-strategic distribution
facilities, consolidating functional activities, eliminating redundant positions and disposing of non-strategic businesses and assets. The expenses and any income recognized directly associated with these actions are included in Merger and restructuring expenses, net on a separate line in the Condensed Consolidated Statements of Operations in order to identify these activities apart from the expenses incurred to sell to and service its customers. These expenses are not included in the determination of Division operating income. The table below summarizes the major components of Merger and restructuring expenses, net.
|
|
First Quarter
|
|
(In millions)
|
|
2019
|
|
|
2018
|
|
Merger and transaction related expenses, net
|
|
|
|
|
|
|
|
|
Severance and retention
|
|
$
|
1
|
|
|
$
|
2
|
|
Transaction and integration
|
|
|
7
|
|
|
|
7
|
|
Facility closure, contract termination, and other expenses, net
|
|
|
—
|
|
|
|
3
|
|
Total Merger and transaction related expenses, net
|
|
|
8
|
|
|
|
12
|
|
Restructuring expenses
|
|
|
|
|
|
|
|
|
Facility closure, contract termination, professional fees and other expenses, net
|
|
|
6
|
|
|
|
5
|
|
Total Restructuring expenses
|
|
|
6
|
|
|
|
5
|
|
Total Merger and restructuring expenses, net
|
|
$
|
14
|
|
|
$
|
17
|
|
Merger and transaction related expenses, net
Severance and retention include expenses related to the integration of staff functions in connection with business acquisitions and are expensed through the severance and retention period. Transaction and integration primarily include legal, accounting, and other third-party expenses incurred in connection with acquisitions and business integration activities. Facility closure, contract termination and other expenses, net primarily relate to facility closure accruals, contract termination costs, gains and losses on asset dispositions, and accelerated depreciation. Also included in the merger and transaction related expenses, net in the first quarter of 2018 are $3 million of integration expenses and $3 million of facility closure costs associated with the 2013 OfficeMax merger. All integration activities associated with the OfficeMax merger were completed in 2018.
Restructuring expenses
On May 8, 2019, in connection with the earnings release and conference call for the first quarter 2019 results, the Company announced that its Board of Directors approved a company-wide, multi-year, cost reduction and business improvement program to systematically drive down costs, improve operational efficiencies, and enable future growth investments. Under this program (the “Business Acceleration Program”), the Company will make several organizational realignments stemming from process improvements, increased leverage of technology and accelerated use of automation. This will result in the elimination of certain positions and a flatter organization.
In connection with this program, the Company anticipates closing approximately 90 underperforming retail stores in 2020 and 2021, and 9 other facilities, consisting of distribution centers and sales offices. As a result of these changes, the Company expects to realize savings of at least $40 million in 2019, and run-rate savings of at least $100 million when fully implemented. Total estimated costs to implement the Business Acceleration Program
are expected to be approximately
11
OFFICE DEPOT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) – (Continued)
$106 million to $116 million
comprised of (1) severance and related employee costs of $38 million to $40 million,
(2) recruitment and relocation costs of $2 million to $4 million, (3) retail store and facility closure costs of $25 million to $27 mi
llion, (4) third-party costs
to facilitate the execution of the program
of $35 million to $37 million, and (5) other costs of approximately $6 million to $8 million
. Of the aggregate costs to implement the
Business Acceleration Program
,
$
9
9
million to $
10
1
million
are expected to
be cash expenditures through 2021
.
For the remainder of fiscal 2019, the Company expects to
incur
approximately $
8
5 million,
of which
approximately $70 million
will be cash, for severance and related employee costs, recruitment an
d relocation, and third-party costs including legal and consulting fees
under the
Business Acceleration Program
.
Included in restructuring expenses in the first quarter of 2019 and 2018 are costs incurred in connection with the Comprehensive Business Review, a program the Company announced in 2016. These costs include severance, facility closure costs, contract termination, accelerated depreciation, professional fees, relocation and disposal gains and losses, as well as other costs associated with retail store closures. In the first quarter of 2019, the Company closed 2 retail stores, and expects to close approximately 57 additional stores through the end of the Comprehensive Business Review
program in 2019.
Merger and Restructuring Accruals
The activity in the merger and restructuring accruals in the first quarter of 2019 is presented in the table below.
|
|
Balance as of
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance as of
|
|
|
|
December 29,
|
|
|
Charges
|
|
|
Cash
|
|
|
Adjustments
|
|
|
March 30,
|
|
(In millions)
|
|
2018
|
|
|
Incurred
|
|
|
Payments
|
|
|
(a)
|
|
|
2019
|
|
Termination benefits:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Merger-related accruals
|
|
$
|
3
|
|
|
$
|
1
|
|
|
$
|
(2
|
)
|
|
$
|
—
|
|
|
$
|
2
|
|
Comprehensive Business Review
|
|
|
—
|
|
|
|
1
|
|
|
|
—
|
|
|
|
—
|
|
|
|
1
|
|
Lease and contract obligations, accruals for facilities
closures and other costs:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Merger-related accruals
|
|
|
10
|
|
|
|
—
|
|
|
|
—
|
|
|
|
(10
|
)
|
|
|
—
|
|
Comprehensive Business Review
|
|
|
5
|
|
|
|
5
|
|
|
|
—
|
|
|
|
(3
|
)
|
|
|
7
|
|
Total
|
|
$
|
18
|
|
|
$
|
7
|
|
|
$
|
(2
|
)
|
|
$
|
(13
|
)
|
|
$
|
10
|
|
|
(a)
|
Represents reclassification of operating lease obligations associated with facility closures to Operating lease right-of-use assets on the Consolidated Balance Sheet in accordance with the new lease accounting standard.
|
The short-term and long-term components of these liabilities are included in Accrued expenses and other current liabilities and Deferred income taxes and other long-term liabilities, respectively, in the Condensed Consolidated Balance Sheets.
12
OFFICE DEPOT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) – (Continued)
NOTE 4. REVENUE RECOGNITION
Products and Services Revenue
The following table provides information about disaggregated revenue by Division, and major products and services categories.
|
|
First Quarter of 2019
|
|
(In millions)
|
|
Business
Solutions
Division
|
|
|
Retail
Division
|
|
|
CompuCom
Division
|
|
|
Other
|
|
|
Total
|
|
Major products and services categories
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Products
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplies
|
|
$
|
771
|
|
|
$
|
443
|
|
|
$
|
—
|
|
|
$
|
3
|
|
|
$
|
1,217
|
|
Technology
|
|
|
326
|
|
|
|
485
|
|
|
|
62
|
|
|
|
1
|
|
|
|
874
|
|
Furniture and other
|
|
|
171
|
|
|
|
98
|
|
|
|
—
|
|
|
|
1
|
|
|
|
270
|
|
Services
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Technology
|
|
|
—
|
|
|
|
8
|
|
|
|
182
|
|
|
|
(2
|
)
|
|
|
188
|
|
Copy, print, and other
|
|
|
76
|
|
|
|
141
|
|
|
|
3
|
|
|
|
—
|
|
|
|
220
|
|
Total
|
|
$
|
1,344
|
|
|
$
|
1,175
|
|
|
$
|
247
|
|
|
$
|
3
|
|
|
$
|
2,769
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
First Quarter of 2018
|
|
(In millions)
|
|
Business
Solutions
Division
|
|
|
Retail
Division
|
|
|
CompuCom
Division
|
|
|
Other
|
|
|
Total
|
|
Major products and services categories
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Products
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplies
|
|
$
|
735
|
|
|
$
|
468
|
|
|
$
|
—
|
|
|
$
|
1
|
|
|
$
|
1,204
|
|
Technology
|
|
|
354
|
|
|
|
539
|
|
|
|
46
|
|
|
|
—
|
|
|
|
939
|
|
Furniture and other
|
|
|
172
|
|
|
|
108
|
|
|
|
—
|
|
|
|
—
|
|
|
|
280
|
|
Services
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Technology
|
|
|
—
|
|
|
|
9
|
|
|
|
210
|
|
|
|
—
|
|
|
|
219
|
|
Copy, print, and other
|
|
|
67
|
|
|
|
120
|
|
|
|
1
|
|
|
|
—
|
|
|
|
188
|
|
Total
|
|
$
|
1,328
|
|
|
$
|
1,244
|
|
|
$
|
257
|
|
|
$
|
1
|
|
|
$
|
2,830
|
|
Products revenue
Products revenue includes the sale of (1) supplies such as paper, writing instruments, office supplies, cleaning and breakroom items, (2) technology related products such as toner and ink, printers, computers, tablets and accessories, electronic storage, and (3) furniture and other products such as desks, seating, and luggage.
The Company sells its supplies, furniture and other products through its Business Solutions and Retail Divisions, and its technology products through all three Divisions. Customers can purchase products through the Company’s call centers, electronically through its Internet websites, or through its retail stores. Revenues from supplies, technology, and furniture and other product sales are recognized when the customer obtains control of the Company’s product, which occurs at a point in time, typically upon delivery to the customer.
Furniture and other products also include arrangements where customers can make special furniture interior design and installation orders that are customized to their needs. The performance obligations related to these arrangements are satisfied over time.
Services revenue
Services revenue includes (1) technology service offerings provided through the Company’s CompuCom Division, such as end user computing support, managed IT services, data center monitoring and management, service desk, network infrastructure, IT workforce solutions, mobile device management and cloud services, as well as technology service offerings provided in the Company’s retail stores, such as installation and repair, and (2) copy, print, and other service offerings such as managed print and fulfillment services, product subscriptions, and sales of third party software, gift cards, warranties, remote support as well as rental income on operating lease arrangements where the Company conveys to its customers the right to use devices and other equipment for a stated period.
13
OFFICE DEPOT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) – (Continued)
The largest offering in the service technology category is end user computing, which provides on-site services to assist corporate end users with their information technology needs. Services are either
billed on a rate per hour or per user, or on a fixed monthly retainer basis. For the majority of technology service offerings contracts, the Company has the right to invoice the customer in an amount that directly corresponds with the value to the custome
r of the Company’s performance to date and as such the Company recognizes revenue based on the amount billable to the customer in accordance with the practical expedient provided by the current revenue guidance.
Substantially all of the Company’s other service offerings are satisfied at a point in time and revenue is recognized as such. The largest other service offering is copy and print services, which includes printing, copying, and digital imaging. The majority of copy and print services are fulfilled through retail stores and the related performance obligations are satisfied within a short period of time (generally within the same day).
Revenue Recognition and Significant Judgments
Revenue is recognized upon transfer of control of promised products or services to customers in an amount that reflects the consideration the Company is entitled to receive in exchange for those products or services. For product sales, transfer of control occurs at a point in time, typically upon delivery to the customer. For service offerings, the transfer of control and satisfaction of the performance obligation is either over time or at a point in time. When performance obligations are satisfied over time, the Company evaluates the pattern of delivery and progress each reporting period and, if necessary, adjusts the measure of performance and related revenue recognition. Revenue is recognized net of allowance for returns and net of any taxes collected from customers, which are subsequently remitted to governmental authorities. Shipping and handling costs are considered fulfillment activities and are recognized within the Company’s cost of goods sold.
Contracts with customers could include promises to transfer multiple products and services to a customer. Determining whether products and services are considered distinct performance obligations that should be accounted for separately versus together may require significant judgment. Determining the standalone selling price also requires judgment. The Company did not have significant revenues generated from such contracts during the first quarter of 2019.
Products are generally sold with a right of return and the Company may provide other incentives, such as rebates and coupons, which are accounted for as variable consideration when estimating the amount of revenue to recognize. The Company estimates returns and incentives at contract inception and includes the amount in the transaction price for which significant reversal is not probable. These estimates are updated at the end of each reporting period as additional information becomes available.
The Company offers a customer loyalty program that provides customers with rewards that can be applied to future purchases or other incentives. Loyalty rewards are accounted for as a separate performance obligation and a deferred liability is recorded in the amount of the transaction price allocated to the rewards, inclusive of the impact of estimated breakage. The estimated breakage of loyalty rewards is based on historical redemption rates experienced under the loyalty program. Revenue is recognized when the loyalty rewards are redeemed or expire. As of March 30, 2019, the Company had $9 million of deferred liability related to the loyalty program, which is included in Accrued expenses and other current liabilities in the Condensed Consolidated Balance Sheets.
The Company recognizes revenue in certain circumstances before product delivery occurs (commonly referred to as bill-and-hold transactions). Revenue from bill-and-hold transactions is recognized when all specific requirements for transfer of control under a bill-and-hold arrangement have been met which include, among other things, a request from the customer that the product be held for future scheduled delivery. For these bill-and-hold arrangements, the associated product inventory is identified separately as belonging to the customer and is ready for physical transfer.
Contract Balances
The timing of revenue recognition may differ from the timing of invoicing to customers. A receivable is recognized in the period the Company delivers goods or provides services, and is recorded at the invoiced amount, net of an allowance for doubtful accounts. A receivable is also recognized for unbilled services where the Company’s right to consideration is unconditional, and is recorded based on an estimate of time and materials. Payment terms and conditions vary by contract type, although terms generally include a requirement of payment within 20 to 60 days. In instances where the timing of revenue recognition differs from the timing of invoicing, the Company has determined that the contracts do not include a significant financing component. The primary purpose of the Company’s invoicing terms is to provide customers with simplified and predictable ways of purchasing its products and services.
The Company receives payments from customers based upon contractual billing schedules. Contract assets include amounts related to deferred contract acquisition costs (refer to the section “Costs to Obtain a Contract” below) and if applicable, the Company’s conditional right to consideration for completed performance under a contract. The short and long-term components of contract assets in the table below are included in Prepaid expenses and other current assets, and Other assets, respectively, in the Condensed Consolidated Balance Sheets. Contract liabilities include payments received in advance of performance under the contract, and are recognized as revenue when the performance obligation is completed under the contract, as well as accrued contract acquisition costs,
14
OFFICE DEPOT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) – (Continued)
liabilities related to the Company’s loyalty program and gift cards. The short and long-term components of contract liabilities in the table below are included in Accrued expenses and other current l
iabilities, and Deferred income taxes and other long-term liabilities, respectively, in the Condensed Consolidated Balance Sheets.
The following table provides information about receivables, contract assets and contract liabilities from contracts with customers:
|
|
March 30,
|
|
|
December 29,
|
|
(In millions)
|
|
2019
|
|
|
2018
|
|
Trade receivables, net
|
|
$
|
669
|
|
|
$
|
655
|
|
Short-term contract assets
|
|
|
25
|
|
|
|
22
|
|
Long-term contract assets
|
|
|
18
|
|
|
|
17
|
|
Short-term contract liabilities
|
|
|
48
|
|
|
|
52
|
|
Long-term contract liabilities
|
|
|
1
|
|
|
|
1
|
|
During the first quarter of 2019, the Company did not have any contract assets related to conditional rights. The Company recognized revenues of $19 million during the first quarter of 2019 which were included in the short-term contract liability balance at the beginning of the period. There were no contract assets and liabilities that were recognized during the first quarter of 2019 as a result of business combinations. There were no significant adjustments to revenue from performance obligations satisfied in previous periods and there were no contract assets recognized at the beginning of the period that transferred to receivables during the first quarter of 2019.
Substantially all of the purchase orders and statements of work related to contracts with customers require delivery of the product or service within one year or less. For certain service contracts that exceed one year, the Company recognizes revenue at the amount to which it has the right to invoice for services performed. Accordingly, the Company has applied the optional exemption provided by the new revenue recognition standard relating to unsatisfied performance obligations and does not disclose the value of unsatisfied performance obligations for its contracts.
Costs to Obtain a Contract
The Company recognizes an asset for the incremental costs of obtaining a contract with a customer if it expects the benefit of those costs to be longer than one year. The Company has determined that certain rebate incentive programs meet the requirements to be capitalized. These costs are periodically reviewed for impairment, and are amortized on a straight-line basis over the expected period of benefit. As of March 30, 2019, capitalized acquisition costs amounted to $43
million, which is reflected in short-term contract assets and long-term contract assets in the table above. During the first quarter of 2019, amortization expense was $9 million and there was no impairment loss in relation to costs capitalized. The Company had no asset impairment charges related to contract assets in the periods presented herein.
NOTE 5. SEGMENT INFORMATION
At March 30, 2019, the Company had three reportable segments: Business Solutions Division, Retail Division and the CompuCom Division. The Business Solutions Division sells nationally branded as well as the Company’s private branded office supply and adjacency products and services to customers in the United States, Puerto Rico, the U.S. Virgin Islands, and Canada. Business Solutions Division customers are served through dedicated sales forces, catalogs, telesales, and electronically through the Company’s Internet websites. The Retail Division includes retail stores in the United States, Puerto Rico and the U.S. Virgin Islands, which offer office supplies, technology products and solutions, business machines and related supplies, print, cleaning, breakroom and facilities products, and office furniture as well as business services including copying, printing, mailing, shipping and technology support services. In addition, the print needs for retail and business customers are also facilitated through the Company’s regional print production centers. The CompuCom Division sells information technology (“IT”) outsourcing services and products to enterprise organizations in the United States and Canada, and offers a broad range of solutions including end user computing support, managed IT services, data center monitoring and management, service desk, network infrastructure, IT workforce solutions, mobile device management and cloud services.
The retained global sourcing operations previously included in the former International Division are not significant and have been presented as Other. Also included in Other is the elimination of intersegment revenues of $3 million for the first quarter of 2019 and $1 million for the first quarter of 2018.
The office supply products and services offered by the Business Solutions Division and the Retail Division are similar, but the CompuCom Division’s offerings are focused on IT services and related products. The Company’s three operating segments are the three reportable segments. The Business Solutions Division, the Retail Division and the CompuCom Division are managed separately
15
OFFICE DEPOT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) – (Continued)
as they represent separate channels in the way the Company serves its customers and are managed accordingly. The accounting policies for each segment are the same as those described in Note 1. Division operating income is determined
based on the measure of performance reported internally to manage the business and for resource allocation. This measure charges to the respective Divisions those expenses considered directly or closely related to their operations and allocates support cos
ts. Certain operating expenses and credits are not allocated to the Business Solutions
Division
,
the
Retail
Division
and
the
CompuCom Division, including Asset impairments and Merger and restructuring expenses, net, as well as expenses and credits retained
at the Corporate level, including certain management costs and legacy pension and environmental matters. Other companies may charge more or less of these items to their segments and results may not be comparable to similarly titled measures used by other
entities. In addition, the Company regularly evaluates the appropriateness of the reportable segments based on how the business is managed, including decision-making about resources allocation and assessing performance of the segments, particularly in ligh
t of organizational changes, merger and acquisition activity and changing laws and regulations. Therefore, the current reportable segments may change in the future.
The following is a summary of sales and operating income (loss) by each of the Divisions and Other, reconciled to consolidated totals, after the elimination of the discontinued operations for all periods.
|
|
Sales
|
|
|
|
First Quarter
|
|
(In millions)
|
|
2019
|
|
|
2018
|
|
Business Solutions Division
|
|
$
|
1,344
|
|
|
$
|
1,328
|
|
Retail Division
|
|
|
1,175
|
|
|
|
1,244
|
|
CompuCom Division
|
|
|
247
|
|
|
|
257
|
|
Other
|
|
|
3
|
|
|
|
1
|
|
Total
|
|
$
|
2,769
|
|
|
$
|
2,830
|
|
|
|
Division Operating Income (Loss)
|
|
|
|
First Quarter
|
|
(In millions)
|
|
2019
|
|
|
2018
|
|
Business Solutions Division
|
|
$
|
46
|
|
|
$
|
55
|
|
Retail Division
|
|
|
67
|
|
|
|
72
|
|
CompuCom Division
|
|
|
(15
|
)
|
|
|
5
|
|
Other
|
|
|
—
|
|
|
|
—
|
|
Total
|
|
$
|
98
|
|
|
$
|
132
|
|
A reconciliation of the measure of Division operating income to Consolidated income from continuing operations before income taxes is as follows:
|
|
First Quarter
|
|
(In millions)
|
|
2019
|
|
|
2018
|
|
Total Divisions operating income
|
|
$
|
98
|
|
|
$
|
132
|
|
Add/(subtract):
|
|
|
|
|
|
|
|
|
Asset impairments
|
|
|
(29
|
)
|
|
|
—
|
|
Merger and restructuring expenses, net
|
|
|
(14
|
)
|
|
|
(17
|
)
|
Unallocated expenses
|
|
|
(31
|
)
|
|
|
(38
|
)
|
Interest income
|
|
|
6
|
|
|
|
6
|
|
Interest expense
|
|
|
(23
|
)
|
|
|
(29
|
)
|
Other income, net
|
|
|
2
|
|
|
|
1
|
|
Income from continuing operations before income taxes
|
|
$
|
9
|
|
|
$
|
55
|
|
The components of goodwill by segment are provided in the following table:
|
|
Business
Solutions
|
|
|
Retail
|
|
|
CompuCom
|
|
|
|
|
|
(In millions)
|
|
Division
|
|
|
Division
|
|
|
Division
|
|
|
Total
|
|
Balance as of December 29, 2018
|
|
$
|
387
|
|
|
$
|
78
|
|
|
$
|
449
|
|
|
$
|
914
|
|
Acquisitions
|
|
|
5
|
|
|
|
—
|
|
|
|
—
|
|
|
|
5
|
|
Foreign currency rate impact
|
|
|
—
|
|
|
|
—
|
|
|
|
3
|
|
|
|
3
|
|
Balance as of March 30, 2019
|
|
$
|
392
|
|
|
$
|
78
|
|
|
$
|
452
|
|
|
$
|
922
|
|
16
OFFICE DEPOT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) – (Continued)
Refer to Note 2 for additional information on the acquisitions made during
the first quarter of 2019
.
As of March 30, 2019, the Company believes that its goodwill and indefinite-lived intangible assets are recoverable for all reporting units. The Company continues to monitor the performance of its CompuCom Division, which reported an operating loss for the first quarter of 2019 mainly driven by lower than expected revenue from existing customer contracts, compounded by less than commensurate reductions in associated expenses. The Company believes that the revenue and profitability shortfall in the first quarter of 2019 at CompuCom were temporary, and the long-term projections management used in the last goodwill recoverability assessment are still achievable. This is supported by the fact that CompuCom’s business has not fundamentally changed since the last goodwill impairment analysis. In addition, the Company has undertaken several actions to improve the future operating performance of CompuCom, including streamlining its operational structure to increase service velocity and efficiency, reorganizing its customer-facing organization to better align with customer needs, and realigning its sales team to more effectively identify new opportunities to increase penetration of existing customers and accelerate cross-selling opportunities. However, if the Company’s actions do not result in improved financial performance at CompuCom, there is a reasonable possibility of future impairment of goodwill and indefinite-lived intangible assets for the CompuCom Division reporting unit.
NOTE 6. INCOME TAXES
The Company’s effective rate for the first quarter of 2019 differs from the statutory rate of 21% enacted as part of the Tax Cuts and Jobs Act primarily due to the impact of excess tax deficiencies associated with stock-based compensation awards, the impact of state taxes and certain nondeductible items, adjustments to tax credit benefits, and the mix of income and losses across U.S. and non-U.S. jurisdictions. Some of these discrete items were particularly larger compared to the income reported in the first quarter of 2019, thus causing the effective tax rate for the period to be significantly lower than the statutory rate. As prior years’ equity awards granted at a higher fair value vest, previously recognized deferred tax benefits on the excess compensation expense are reversed, thus causing a tax deficiency. The Company’s effective tax rates in prior periods have varied considerably as a result of two primary factors, 1) the mix of income and losses across U.S. and non-U.S. jurisdictions, and 2) the derecognition of valuation allowances against deferred tax assets that were not more-likely-than-not realizable in the U.S. and certain non-U.S. jurisdictions. During 2019 and 2018, the mix of income and losses across jurisdictions, although still applicable, has become less of a factor in influencing the Company’s effective tax rates due to the dispositions of the international businesses and improved operating results. As a result, the Company’s effective tax rates were 11% for the first quarter of 2019 and 40% for the first quarter of 2018. Changes in pretax income projections and the mix of income across jurisdictions could impact the effective tax rate in future quarters.
The Tax Cuts and Jobs Act repealed the corporate Alternative Minimum Tax (“AMT”) and allows unutilized AMT credits to be refunded. For tax years 2018 through 2020, taxpayers may receive 50% of their uncredited balances as a cash refund with any remaining amounts refunded in full in 2021. The Company determined it is more-likely-than-not that $45 million of its AMT credits will be refunded and is estimated to occur in the first quarter of 2020. Accordingly, the Company reclassified $45 million from non-current deferred tax assets to income tax receivables in the first quarter of 2019.
The Company continues to have a U.S. valuation allowance for certain U.S. federal credits and state tax attributes, which relate to deferred tax assets that require certain types of income or for income to be earned in certain jurisdictions in order to be realized. The Company will continue to assess the realizability of its deferred tax assets in the U.S. and remaining foreign jurisdictions in future periods. Changes in pretax income projections could impact this evaluation in future periods.
The Company files a U.S. federal income tax return and other income tax returns in various states and foreign jurisdictions. With few exceptions, the Company is no longer subject to U.S. federal and state and local income tax examinations for years prior to 2017 and 2013, respectively. The acquired OfficeMax U.S. consolidated group is no longer subject to U.S. federal income tax examination, and with few exceptions, is no longer subject to U.S. state and local income tax examinations for years prior to 2013. The Company’s U.S. federal income tax return for 2017 is currently under review. Generally, the Company is subject to routine examination for years 2012 and forward in its international tax jurisdictions.
It is not reasonably possible that certain tax positions will be resolved within the next 12 months. Additionally, the Company anticipates that it is reasonably possible that new issues will be raised or resolved by tax authorities that may require changes to the balance of unrecognized tax benefits; however, an estimate of such changes cannot be reasonably made.
17
OFFICE DEPOT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) – (Continued)
NOTE 7. EARNINGS PER SHARE
The following table represents the calculation of net earnings per common share – basic and diluted:
|
|
First Quarter
|
|
(In millions, except per share amounts)
|
|
2019
|
|
|
2018
|
|
Basic Earnings Per Share
|
|
|
|
|
|
|
|
|
Numerator:
|
|
|
|
|
|
|
|
|
Net income from continuing operations
|
|
$
|
8
|
|
|
$
|
33
|
|
Income from discontinued operations, net of tax
|
|
|
—
|
|
|
|
8
|
|
Net income
|
|
$
|
8
|
|
|
$
|
41
|
|
Denominator:
|
|
|
|
|
|
|
|
|
Weighted-average shares outstanding
|
|
|
543
|
|
|
|
555
|
|
Basic earnings per share:
|
|
|
|
|
|
|
|
|
Continuing operations
|
|
$
|
0.01
|
|
|
$
|
0.06
|
|
Discontinued operations
|
|
|
—
|
|
|
|
0.01
|
|
Net earnings per share
|
|
$
|
0.01
|
|
|
$
|
0.07
|
|
Diluted Earnings Per Share
|
|
|
|
|
|
|
|
|
Numerator:
|
|
|
|
|
|
|
|
|
Net income from continuing operations
|
|
$
|
8
|
|
|
$
|
33
|
|
Income from discontinued operations, net of tax
|
|
|
—
|
|
|
|
8
|
|
Net income
|
|
$
|
8
|
|
|
$
|
41
|
|
Denominator:
|
|
|
|
|
|
|
|
|
Weighted-average shares outstanding
|
|
|
543
|
|
|
|
555
|
|
Effect of dilutive securities:
|
|
|
|
|
|
|
|
|
Stock options and restricted stock
|
|
|
18
|
|
|
|
8
|
|
Diluted weighted-average shares outstanding
|
|
|
561
|
|
|
|
563
|
|
Diluted earnings per share:
|
|
|
|
|
|
|
|
|
Continuing operations
|
|
$
|
0.01
|
|
|
$
|
0.06
|
|
Discontinued operations
|
|
|
—
|
|
|
|
0.01
|
|
Net diluted earnings per share
|
|
$
|
0.01
|
|
|
$
|
0.07
|
|
Awards of stock options and nonvested shares representing approximately 4 million additional shares of common stock were outstanding for the first quarter of 2019 and approximately 8 million for the first quarter of 2018, but were not included in the computation of diluted weighted-average shares outstanding because their effect would have been antidilutive.
NOTE 8. LEASES
The Company leases retail stores and other facilities, vehicles, and equipment under operating lease agreements. Facility leases typically are for a fixed non-cancellable term with one or more renewal options. In addition to rent payments, the Company is required to pay certain variable lease costs such as real estate taxes, insurance and common area maintenance on most of the facility leases. For leases beginning in 2019 and later, the Company accounts for lease components (e.g., fixed payments including rent) and non-lease components (e.g., real estate taxes, insurance costs and common-area maintenance costs) as a single lease component. Many lease agreements contain tenant improvement allowances, rent holidays, and/or rent escalation clauses. Certain leases contain provisions for additional rent to be paid if sales exceed a specified amount, though such payments have been immaterial during the periods presented. The Company subleases certain real estate to third parties, consisting mainly of operating leases for space within the retail stores.
The components of lease expense were as follows:
|
|
March 30,
|
|
(In millions)
|
|
2019
|
|
Finance lease cost:
|
|
|
|
|
Amortization of right-of-use assets
|
|
$
|
4
|
|
Interest on lease liabilities
|
|
|
1
|
|
Operating lease cost
|
|
|
111
|
|
Short-term lease cost
|
|
|
3
|
|
Variable lease cost
|
|
|
33
|
|
Total lease cost
|
|
$
|
152
|
|
18
OFFICE DEPOT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) – (Continued)
Supplemental cash flow
information related to leases
was
as follows:
|
|
March 30,
|
|
(In millions)
|
|
2019
|
|
Cash paid for amounts included in the measurement of lease liabilities
|
|
|
|
|
Operating cash flows from finance leases
|
|
$
|
1
|
|
Operating cash flows from operating leases
|
|
|
125
|
|
Financing cash flows from finance leases
|
|
|
5
|
|
Right-of-use assets obtained in exchange for new finance lease liabilities
|
|
|
2
|
|
Right-of-use assets obtained in exchange for new operating lease liabilities
|
|
|
53
|
|
Supplemental balance sheet information related to leases was as follows:
|
|
March 30,
|
|
(In millions, except lease term and discount rate)
|
|
2019
|
|
Property and equipment, net
|
|
$
|
41
|
|
Operating lease right-of-use assets
|
|
|
1,398
|
|
Accrued expenses and other current liabilities
|
|
|
370
|
|
Short-term borrowings and current maturities of long-term debt
|
|
|
16
|
|
Long-term debt, net of current maturities
|
|
|
53
|
|
Operating lease liabilities
|
|
|
1,208
|
|
Weighted-average remaining lease term – finance leases
|
|
5 years
|
|
Weighted-average remaining lease term – operating leases
|
|
5 years
|
|
Weighted-average discount rate – finance leases
|
|
|
6.9
|
%
|
Weighted-average discount rate – operating leases
|
|
|
7.0
|
%
|
Maturities of lease liabilities as of March 30, 2019 were as follows:
|
|
March 30, 2019
|
|
|
|
Operating
|
|
|
Finance
|
|
(In millions)
|
|
Leases
(1)
|
|
|
Leases
|
|
2019 (excluding the first quarter of 2019)
|
|
$
|
546
|
|
|
$
|
16
|
|
2020
|
|
|
479
|
|
|
|
16
|
|
2021
|
|
|
338
|
|
|
|
14
|
|
2022
|
|
|
254
|
|
|
|
12
|
|
2023
|
|
|
178
|
|
|
|
11
|
|
Thereafter
|
|
|
132
|
|
|
|
15
|
|
|
|
|
1,927
|
|
|
|
84
|
|
Less imputed interest
|
|
|
(349
|
)
|
|
|
(15
|
)
|
Total
|
|
$
|
1,578
|
|
|
$
|
69
|
|
|
|
|
|
|
|
|
|
|
Reported as of March 30, 2019
|
|
|
|
|
|
|
|
|
Accrued expenses and other current liabilities
|
|
$
|
370
|
|
|
$
|
—
|
|
Short-term borrowings and current maturities of long-term debt
|
|
|
—
|
|
|
|
16
|
|
Long-term debt, net of current maturities
|
|
|
—
|
|
|
|
53
|
|
Operating lease liabilities
|
|
|
1,208
|
|
|
|
—
|
|
Total
|
|
$
|
1,578
|
|
|
$
|
69
|
|
(1)
|
Operating lease payments include $155 million related to options to extend lease terms that are reasonably certain of being exercised and exclude $2 million of legally binding lease payments for an additional operating lease signed but not yet commenced. This operating lease will commence in fiscal year 2019 with a lease term of 10 years.
|
Adoption of the new lease accounting standard using the alternative transition method required the Company to provide relevant disclosures in accordance with ASC 840, Leases for all prior periods presented. The table below represents future minimum lease payments due under the non-cancelable portions of leases including facility leases that were accrued as store closure costs as of December 29, 2018. The table was updated from the version previously included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 29, 2018 within the Notes to Consolidated Financial Statements to adjust for certain inconsistencies
19
OFFICE DEPOT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) – (Continued)
that management identified
in the first quarter of fiscal year 2019
during t
he implementation of ASC 842
, Leases
.
Specifically, the Company corrected the schedule to include additional lease commitments for option periods at the time of execution as opposed to the original extension date.
|
|
December 29,
|
|
(In millions)
|
|
2018
|
|
2019
|
|
$
|
466
|
|
2020
|
|
|
374
|
|
2021
|
|
|
285
|
|
2022
|
|
|
214
|
|
2023
|
|
|
144
|
|
Thereafter
|
|
|
235
|
|
|
|
|
1,718
|
|
Less sublease income
|
|
|
(11
|
)
|
Total
|
|
$
|
1,707
|
|
NOTE 9. DEBT
In connection with the consummation of the acquisition of CompuCom, the Company entered into a credit agreement, dated as of November 8, 2017 (the “Term Loan Credit Agreement”), which provides for a $750 million term loan facility with a maturity date of November 8, 2022. The Term Loan Credit Agreement was amended in November 2018. The Company was in compliance with all applicable financial covenants associated with the Term Loan Credit Agreement at March 30, 2019.
In May 2011, the Company entered into an amended and restated credit agreement, which was amended and restated in May 2016 for an additional five years, and was further amended in December 2016 and November 2017 (the Amended and Restated Credit Agreement including all amendments is referred to as the “Amended Credit Agreement”). The Amended Credit Agreement provides for a revolving credit facility of up to $1.2 billion and will mature on May 13, 2021. As provided in the Amended Credit Agreement, available amounts that can be borrowed are based on percentages of certain outstanding accounts receivable, credit card receivables, and inventory of the Company. At March 30, 2019, the Company had $943
million of available credit, and letters of credit outstanding totaling $72 million under the Amended Credit Agreement. There were no borrowings under the Amended Credit Agreement in the first quarter of 2019 and the Company was in compliance with all applicable financial covenants at March 30, 2019.
Non-recourse debt
The Installment Notes (the “Timber Notes Receivable”) and the related Securitization Notes (the “Non-Recourse Debt”), as defined in the 2018 Form 10-K, are scheduled to mature on January 29, 2020 and October 31, 2019, respectively. As described in the indenture governing the Non-Recourse Debt, if the Company does not provide a redemption notice in September 2019, the maturity date of the Non-Recourse Debt will extend to January 29, 2020, provided that the majority holders of the Non-Recourse Debt do not disallow the extension by October 21, 2019. The extension of the maturity date of the Non-Recourse Debt will result in an increase in the interest rate for the extension period at the greater of 7.42% or LIBOR plus 2.55%, capped at 13%.
NOTE 10. STOCKHOLDERS’ EQUITY
Accumulated other comprehensive income (loss) activity, net of tax, where applicable, is provided in the following table:
|
|
Foreign
|
|
|
Change in
|
|
|
|
|
|
|
|
Currency
|
|
|
Deferred
|
|
|
|
|
|
|
|
Translation
|
|
|
Pension and
|
|
|
|
|
|
(In millions)
|
|
Adjustments
|
|
|
Other
|
|
|
Total
|
|
Balance at December 29, 2018
|
|
$
|
(50
|
)
|
|
$
|
(49
|
)
|
|
$
|
(99
|
)
|
Other comprehensive income activity before reclassifications
|
|
|
10
|
|
|
|
1
|
|
|
|
11
|
|
Balance at March 30, 2019
|
|
$
|
(40
|
)
|
|
$
|
(48
|
)
|
|
$
|
(88
|
)
|
Treasury Stock
In November 2018, the Board of Directors approved a stock repurchase program of up to $100 million of its common stock effective January 1, 2019, which extends until the end of 2020 and may be suspended or discontinued at any time. The stock repurchase authorization permits the Company to repurchase stock from time-to-time through a combination of open market repurchases,
20
OFFICE DEPOT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) – (Continued)
privately negotiated tran
sactions, 10b5-1 trading plans, accelerated stock repurchase transactions and/or other derivative transactions. The exact number and timing of share repurchases will depend on market conditions and other factors, and will be funded through
available cash b
alances
. However, the Company’s ability to repurchase its common stock
in 2019
is subject to certain restrictions
under the Company’s Term Loan Credit Agreement
.
During the first quarter of 2019, the Company purchased approximately 4 million shares of its common stock at a cost of $10 million, excluding commissions, and as of March 30, 2019, approximately $90 million remains available for share repurchases under the current stock repurchase authorization. Refer to Item 2, “Unregistered Sales of Equity Securities and Use of Proceeds” in Part II, “Other Information” for additional information.
Dividends on Common Stock
In February 2019, the Company’s Board of Directors declared a quarterly cash dividend in the amount of $0.025 per share on its common stock, resulting in total cash payments of $14 million. Dividends have been recorded as a reduction to additional paid-in capital as the Company is in an accumulated deficit position. Payment of dividends is permitted under the Company’s Amended Credit Agreement provided that the Company has the required minimum liquidity or fixed charge ratio, but may be limited if the Company does not meet the necessary requirements. Additionally, under the Company’s Term Loan Credit Agreement, payment of dividends is permitted subject to compliance with an annual limit.
NOTE 11. EMPLOYEE BENEFIT PLANS
Pension and Other Postretirement Benefit Plans – North America
The components of net periodic pension expense (benefit) for the Company’s North America pension plans are as follows:
|
|
First Quarter
|
|
(In millions)
|
|
2019
|
|
|
2018
|
|
Service cost
|
|
$
|
2
|
|
|
$
|
1
|
|
Interest cost
|
|
|
9
|
|
|
|
9
|
|
Expected return on plan assets
|
|
|
(10
|
)
|
|
|
(11
|
)
|
Net periodic pension expense (benefit)
|
|
$
|
1
|
|
|
$
|
(1
|
)
|
During the first quarter of 2019, cash contributions to the North America pension plans were not significant. The Company expects to make additional cash contributions of approximately $2 million to the North America pension plans during the remainder of 2019.
Pension Plan – United Kingdom
The components of net periodic pension benefit for the Company’s UK pension plan are as follows:
|
|
First Quarter
|
|
(In millions)
|
|
2019
|
|
|
2018
|
|
Service cost
|
|
$
|
—
|
|
|
$
|
—
|
|
Interest cost
|
|
|
2
|
|
|
|
2
|
|
Expected return on plan assets
|
|
|
(2
|
)
|
|
|
(2
|
)
|
Net periodic pension benefit
|
|
$
|
—
|
|
|
$
|
—
|
|
The UK pension plan is in a net asset position. During the first quarter of 2019, cash contributions of $1 million were made to the UK pension plan. The Company is required to make an additional cash contribution of $1 million to the UK pension plan during the remainder of 2019.
Net periodic pension benefits for the North America and UK pension and other postretirement benefit plans (the “Plans”) are recorded at the corporate level. The service cost for the Plans are reflected in Selling, general and administrative expenses, and the other components of net periodic pension benefits are reflected in Other income, net, in the Condensed Consolidated Statements of Operations.
21
OFFICE DEPOT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) – (Continued)
NOTE 1
2
. FAIR VALUE MEASUREMENTS
The Company measures fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date under current market conditions. In developing its fair value estimates, the Company uses the following hierarchy:
Level 1:
|
|
Quoted prices in active markets for identical assets or liabilities.
|
|
|
|
Level 2:
|
|
Observable market based inputs or unobservable inputs that are corroborated by market data.
|
|
|
|
Level 3:
|
|
Significant unobservable inputs that are not corroborated by market data. Generally, these fair value measures are model-based valuation techniques such as discounted cash flows or option pricing models using the Company’s own estimates and assumptions or those expected to be used by market participants.
|
Recurring Fair Value Measurements
In accordance with GAAP, certain assets and liabilities are required to be recorded at fair value on a recurring basis. The Company’s assets and liabilities that are adjusted to fair value on a recurring basis are money market funds that qualify as cash equivalents, and derivative financial instruments. As of March 30, 2019 and December 29, 2018, the Company did not have any money market funds that had floating net asset values that required measurement.
The fair values of the Company’s foreign currency contracts and fuel contracts are the amounts receivable or payable to terminate the agreements at the reporting date, taking into account current exchange rates and commodity prices. The values are based on market-based inputs or unobservable inputs that are corroborated by market data. Amounts associated with these derivative financial instruments are considered Level 1 measurements, and were not significant for the reported periods. At March 30, 2019, Prepaid expenses and other current assets in the Condensed Consolidated Balance Sheet included less than $1 million related to derivative foreign currency and fuel contracts. At December 29, 2018, Accrued expenses and other current liabilities in the Condensed Consolidated Balance Sheet included less than $1 million related to derivative foreign currency and fuel contracts.
Nonrecurring Fair Value Measurements
In addition to assets and liabilities that are recorded at fair value on a recurring basis, the Company records certain assets and liabilities at fair value on a nonrecurring basis as required by GAAP. Generally, assets are recorded at fair value on a nonrecurring basis as a result of impairment charges. In the first quarter of 2019, the Company recognized
an asset impairment charge of $
29 million associated with continuing operations. Of this $29 million asset impairment charge, $25 million was related to impairment of ROU assets for retail store locations.
The Company regularly reviews retail store long-lived assets for impairment indicators at the individual store level, as this represents the lowest level of identifiable cash flows. When indicators of impairment are present, a recoverability analysis is performed which considers the estimated undiscounted cash flows over the retail store’s remaining life and uses input from retail operations and accounting and finance personnel. These inputs include management’s estimates of store-level sales, gross margins, direct expenses, exercise of future lease renewal options when reasonably certain to be exercised, and resulting cash flows, by their nature, include judgments about how current initiatives will impact future performance. In the first quarter of 2019, the
assumptions used within the recoverability analysis for the retail stores were updated to consider current quarter store operational results and formal plans for additional store closures. These assumptions reflected declining sales over the forecast period, and gross margin and operating cost assumptions that are consistent with recent actual results and consider plans for future initiatives.
If the undiscounted cash flows of a retail store cannot support the carrying amount of its assets, the assets are impaired and written down to estimated fair value. The fair value of retail store assets is determined using a discounted cash flow analysis which uses Level 2 unobservable inputs that are corroborated by market data, where available, such as real estate broker’s opinions. Specifically, the analysis uses assumptions of potential rental rates for each retail store location which are based on market data for comparable locations. These estimated cash flows used in the first quarter of 2019 impairment calculation were discounted at a weighted average discount rate of 7%. For retail store locations for which Level 2 inputs are not readily available, the Company uses Level 3 unobservable inputs to determine fair value.
The Company will continue to evaluate initiatives to improve performance and lower operating costs. To the extent that forward-looking sales and operating assumptions are not achieved and are subsequently reduced, additional impairment charges may result. However, at the end of the first quarter of 2019, the impairment recognized reflects the Company’s best estimate of future performance.
22
OFFICE DEPOT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) – (Continued)
Other Fair Value Disclosures
The fair values of cash and cash equivalents, receivables, trade accounts payable and accrued expenses and other current liabilities approximate their carrying values because of their short-term nature.
The following table presents information about financial instruments at the balance sheet dates indicated.
|
|
March 30,
|
|
|
December 29,
|
|
|
|
2019
|
|
|
2018
|
|
|
|
Carrying
|
|
|
Fair
|
|
|
Carrying
|
|
|
Fair
|
|
(In millions)
|
|
Amount
|
|
|
Value
|
|
|
Amount
|
|
|
Value
|
|
Financial assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Timber notes receivable
|
|
$
|
836
|
|
|
$
|
835
|
|
|
$
|
842
|
|
|
$
|
835
|
|
Company-owned life insurance
|
|
|
92
|
|
|
|
92
|
|
|
|
91
|
|
|
|
91
|
|
Financial liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Recourse debt:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Term Loan, due 2022
|
|
|
445
|
|
|
|
470
|
|
|
|
463
|
|
|
|
490
|
|
Revenue bonds, due in varying amounts periodically
through 2029
|
|
|
186
|
|
|
|
186
|
|
|
|
186
|
|
|
|
184
|
|
American & Foreign Power Company, Inc. 5% debentures,
due 2030
|
|
|
14
|
|
|
|
14
|
|
|
|
14
|
|
|
|
14
|
|
Non-recourse debt — Timber notes
|
|
|
748
|
|
|
|
747
|
|
|
|
754
|
|
|
|
750
|
|
The following methods and assumptions were used to estimate the fair value of each class of financial instruments:
|
•
|
Timber notes receivable:
Fair value is determined as the present value of expected future cash flows discounted at the current interest rate for loans of similar terms with comparable credit risk (Level 2 measure).
|
|
•
|
Company-owned life insurance:
In connection with the 2013 OfficeMax merger, the Company acquired company owned life insurance policies on certain former employees. The fair value of the company-owned life insurance policies is derived using determinable net cash surrender value (Level 2 measure).
|
|
•
|
Recourse debt:
Recourse debt, for which there were no transactions on the measurement date, was valued based on quoted market prices near the measurement date when available or by discounting the future cash flows of each instrument using rates based on the most recently observable trade or using rates currently offered to the Company for similar debt instruments of comparable maturities (Level 2 measure).
|
|
•
|
Non-recourse debt:
Fair value is estimated by discounting the future cash flows of the instrument at rates currently available to the Company for similar instruments of comparable maturities (Level 2 measure).
|
NOTE 13. COMMITMENTS AND CONTINGENCIES
Legal Matters
The Company is involved in litigation arising in the normal course of business. While, from time to time, claims are asserted that make demands for a large sum of money (including, from time to time, actions which are asserted to be maintainable as class action suits), the Company does not believe that contingent liabilities related to these matters (including the matters discussed below), either individually or in the aggregate, will materially affect the Company’s financial position, results of operations or cash flows.
In addition, in the ordinary course of business, sales to and transactions with government customers may be subject to lawsuits, investigations, audits and review by governmental authorities and regulatory agencies, with which the Company cooperates. Many of these lawsuits, investigations, audits and reviews are resolved without material impact to the Company. While claims in these matters may at times assert large demands, the Company does not believe that contingent liabilities related to these matters, either individually or in the aggregate, will materially affect its financial position, results of operations or cash flows.
In December 2016, the Federal Trade Commission ("FTC'') issued a Civil Investigative Demand (“CID”) to the Company requiring the Company to produce certain documents and materials and to answer certain interrogatories relating to the Company’s use of the product PC Healthcheck, a software program manufactured by a third-party vendor and provided to the Company for its customers prior to December 31, 2016. Since issuing the CID, the FTC has sought additional written and testimonial evidence from the Company, and the Company has cooperated with the investigation from its inception.
On July 19, 2018, the Company was notified by the FTC that it would like to engage in settlement discussions. Based on the ongoing discussions with the FTC, on December 29, 2018, the Company accrued $25 million for potential liabilities associated with this claim.
23
OFFICE DEPOT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited) – (Continued)
In March 2019, the FTC Commissioners approve
d
the proposed settlement between the FTC and the Company. The Stipulation to Entry of Order for Permanent Injunction and Monetary Judgment, or the “Consent Order
,
” was filed with
the U.S. District Court for the Southern District of Florida (the “Court”) and entered by the Court on March 29, 2019.
Under the terms of the Consent Order, wherein the Company neither admitted nor denied the FTC’s allegations (except as to the Court having jurisdiction over the matter), the FTC Commissioners agreed to accept payment of $25 million to compensate affected Company customers (the “settlement payment”). The settlement payment was paid on April 12, 2019, fourteen (14) days after final entry of the Consent
Order by the Court. The Consent Order also requires the Company to implement a compliance certification, record creation and maintenance program
.
Additionally, in January 2017 and May 2017, the Consumer Protection Divisions of each of the Office of Attorney General, State of Washington ("Washington AG'') and the Office of Attorney General, State of Texas (''Texas AG''), respectively, each issued a CID to the Company requiring the Company to produce certain documents and materials and to answer certain interrogatories relating to PC Healthcheck. The Company is cooperating with the Washington AG and Texas AG with respect to these matters. At this time, it is difficult to predict the timing, the likely outcome, and/or potential range of loss, if any, of these state matters.
In addition to the foregoing, OfficeMax is named as a defendant in a number of lawsuits, claims, and proceedings arising out of the operation of certain paper and forest products assets prior to those assets being sold in 2004, for which OfficeMax agreed to retain responsibility. Also, as part of that sale, OfficeMax agreed to retain responsibility for all pending or threatened proceedings and future proceedings alleging asbestos-related injuries arising out of the operation of the paper and forest products assets prior to the closing of the sale. The Company has made provision for losses with respect to the pending proceedings. Additionally, as of March 30, 2019, the Company has made provision for environmental liabilities with respect to certain sites where hazardous substances or other contaminants are or may be located. For these liabilities, our estimated range of reasonably possible losses was approximately $10 million to $25 million. The Company regularly monitors its estimated exposure to these liabilities. As additional information becomes known, these estimates may change, however, the Company does not believe any of these OfficeMax retained proceedings are material to the Company’s financial position, results of operations or cash flows.
NOTE 14. DISCONTINUED OPERATIONS
In the third quarter of 2016, the Company’s Board of Directors approved a plan to sell substantially all operations of the former International Division through four disposal groups (Europe, South Korea, Oceania and mainland China) (the “International Operations”). Collectively, these dispositions represent a strategic shift that has a major impact on the Company’s operations and financial results and have been accounted for as discontinued operations. As of the end of fiscal 2018, the sale of the International Operations was complete, and there are no further discontinued operations in 2019.
For the first quarter of 2018, the major components of Discontinued operations, net of tax presented were as follows:
|
|
First Quarter
|
|
(In millions)
|
|
2018
|
|
Sales
|
|
$
|
94
|
|
Cost of goods sold and occupancy costs
|
|
|
72
|
|
Operating expenses
|
|
|
17
|
|
Restructuring charges
|
|
|
—
|
|
Other expense, net
|
|
|
(2
|
)
|
Net increase of loss on discontinued operations held for sale
|
|
|
(1
|
)
|
Net loss on sale of discontinued operations
|
|
|
(1
|
)
|
Income tax benefit
|
|
|
(7
|
)
|
Discontinued operations, net of tax
|
|
$
|
8
|
|
24