KEY RATING DRIVERS
The downgrade reflects Staples' weak sales and margin trends caused by a secular decline in sales of core office supplies (57% of Staples' 2013 sales, half of which is paper, ink and toner), and weak sales of business technology products (15% of sales). Declining operating performance also reflects competition from online retailers, persistent weakness in the company's international segment, and the challenging macroeconomic environment. The Negative Outlook reflects Fitch's view that these trends could persist over the medium term.
The rating continues to be supported by Staples' leadership position in the mature retail and commercial office product supply industry, a diversified model by channel and customer, and strong free cash flow (FCF). The ratings also reflect the benefit from Staples' cost reductions that will fund sharper pricing investments in the business and the rationalization of the sector's retail square footage with significant store closings anticipated between Staples and Office Depot.
Staples has leading positions in its two largest segments - North American Stores and Online and North American Commercial, which accounted for 54% and 41%, respectively, of EBITDA in 2013. The international segment, which is centered in
The company's operating trends over the past 24 months have been soft, with sales down 3.4% in 2013 (excluding the extra week in 2012) following a 3% decline in 2012. Within the North American Stores and Online segment, 2013 sales declined 4.3% due to a 4% drop in North American retail comps and the effect of net store closures (40 stores closed in 2013 and 31 in 2012) and downsizings, offset in part by low single digit growth at Staples.com. International sales were down a sharp 9% in 2013 (excluding the extra week in 2012) and 11.8% in 2012, due to sales declines in
The North American commercial segment has been more stable over time from a top line perspective, growing at a 1%-2% pace annually, including a 1.2% increase in 2013 excluding effect of the extra week in 2012, and Staples has stepped up investments in the business to support continued growth.
The deceleration in retail top line and investments to drive growth in the North American business have resulted in EBITDA contraction of over 20% to
With more than 70% of Staples' product mix under secular pressure, Fitch expects consolidated top line to contract by 3% annually in 2014 and 2015. As a result, EBITDA is expected to decline to
In the wake of soft 2013 results, Staples has accelerated its restructuring efforts, announcing in
Fitch expects that the planned store closings and downsizings could stabilize or modestly improve store productivity trends. Together with expected store closings at Office Depot, these closings will help to rationalize the sector's retail footprint. Fitch estimates that annual sales per square foot in Staples' North American stores will recover from around
Staples had cash and cash equivalents of
FCF after dividends has been consistently positive, though it has trended lower to the
With no near-term debt maturities, debt levels are expected to remain flat and FCF is expected to be used primarily for share repurchases. Fitch expects adjusted leverage to increase to the low 3x range in 2014 on its projected EBITDA decline.
Future developments that may, individually or collectively, lead to a Stable Outlook include a stabilization of top-line and EBITDA trends, and maintenance of adjusted debt/EBITDAR at or under 3x.
Future developments that may, individually or collectively, lead to a negative rating action include continued negative sales and margin trends and declines in EBITDA that drive adjusted leverage towards the mid-3x area.
Fitch has downgraded the following:
--Long-term Issuer Default Rating (IDR) to 'BBB-' from 'BBB';
--Bank credit facility to 'BBB-' from 'BBB';
--Senior unsecured notes to 'BBB-' from 'BBB';
--Short-term IDR to 'F3' from 'F2';
--Commercial paper to 'F3' from 'F2'.
The Rating Outlook is Negative.
Additional information is available at 'www.fitchratings.com'.
--Corporate Rating Methodology,
Corporate Rating Methodology: Including Short-Term Ratings and Parent and Subsidiary Linkage
Source: Fitch Ratings
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