Staples Q3 Earnings Call Transcript

123jump.com Staff
25 Dec, 2008
New York City

The office supply retailer reported a 34% surge in revenues to $7 billion, including $2 billion from Corporate Express. Net income declined 43% to $157 million, and earnings per share decreased 42% to $0.22. Corporate Express acquisition generated synergies of $300 million.

Staples, Inc. ((SPLS))
Q3 2008 Earnings Call Transcript
December 2, 2008 8:00 a.m. ET

Executives

Laurel Lefebvre - Vice President, Investor Relations
Ronald L. Sargent - Chairman and Chief Executive Officer
Michael A. Miles, Jr. - President and Chief Operating Officer
Peter Ventress – President, International
John J. Mahoney - Vice Chairman and Chief Financial Officer
Demos Parneros – President, US Stores
Joseph G. Doody – President, North American Delivery

Analysts

Oliver Wintermantel – Morgan Stanley
Matthew Fassler – Goldman Sachs
Colin McGranahan – Sanford C. Bernstein & Co., Inc.
Chris Horvers – JP Morgan
Sharon Lee – Bank of America Securities
Michael Baker – Deutsche Bank Securities Inc.
Alan Rifkin – Merrill Lynch & Co.
Stephen Chick – FBR Capital Markets
Lincy – Credit Suisse
Joe Feldman – Telsey Advisory Group
Dan Binder – Jefferies & Co.
Brian Nagel – UBS Investment Research
Gary Balter – Credit Suisse

Presentation

Operator

Good day ladies and gentlemen and welcome to the third quarter 2008 Staples, Inc. earnings conference call. My name is Shenel (ph) and I will be your coordinator for today. At this time, all participants are in listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. If at any time during the call you require assistance, please press “*” followed by “0” and a coordinator will be happy to assist you. As a reminder, this conference is being recorded for replay purposes. I would now like to turn the presentation over to your host for today’s conference, Ms. Laurel Lefebvre, Vice President of Investor Relations. Please proceed.

Laurel Lefebvre

Good morning everyone and thanks for joining us for our third quarter earnings announcement. During today’s call, we’ll discuss some non-GAAP metrics, such as return on net assets and results excluding Corporate Express, to provide investors with useful information about our financial performance. Please see the financial measures and other data section of the investor information portion of www.staples.com for an explanation and reconciliation of such measures and other calculations of financial measures that we use to analyze our business.

I would also like to remind you that certain information in this call constitute forward-looking statements for purposes of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated by such forward-looking statements as a result of various important factors, including those discussed or referenced under the heading “Risk Factors” and elsewhere in Staples latest 10-Q filed today. Please also note that during the call we will refer to Staples’ pre-acquisition performance excluding the impact of Corporate Express as Staples’ core business.

Here to discuss Staples Q3 performance and business outlook are Ron Sargent, Chairman and Chief Executive Officer, Mike Miles, President and Chief Operating Officer, Peter Ventress, President of International, and John Mahoney, Vice Chairman and Chief Financial Officer. Also joining us are Demos Parneros, President of US Stores, and Joe Doody, President of North American Delivery. Ron.

Ronald L. Sargent

Thanks Laurel and good morning everybody. A few weeks ago at our Investor Conference we gave you an update on our strategic plans, our latest expectations for the Corporate Express integration as well as our financial outlook and we also pre-announced our results for the third quarter. So today what we’re going to do is add a little more color to those results in each of our three business units.

Sales for the third quarter were up 34.5% versus last year to $7 billion. This includes about $2 billion of Corporate Express sales. If you exclude the impact of Corporate Express, total company sales decreased about 3.4%. Our adjusted earnings per share were flat over last year at $0.42.

The economic environment remains challenging and we saw particular weakness during October at the height of the financial crisis. Despite the weak top line the team once again did a great job managing all the lines on the P&L, controlling inventory levels, and driving strong free cash flow.

We know from our experience during previous downturns that if we continue to take care of our customers, invest in the business and control expenses and capital spending we’ll come out on the other side even strong than before. We continue to work hard on a number of initiatives across all of our businesses to help drive growth and profit improvement.

In North American Delivery our biggest priority is the integration of Corporate Express. This work has been underway now for about four months and we’re very pleased with the progress we’ve made. We remain confident that total company annual synergies will build to $300 million over the three year integration period.

In North American Retail, the most important thing we can do is to improve store productivity. We’re focusing on new merchandising initiatives, a new selling model and driving sales of copy and tech services. We’re also driving better productivity with smaller, more efficient store formats.

In our International business the integration of Corporate Express is well underway there as well. By adding the large customer segment to our portfolio we now have a stronger platform to gain share and more customer segments and in more geographies. We’ll continue to see good results from our profit improvement plan for the core business and our integration plan provide even more opportunity to drive sales and margin growth.

I’ll now turn it over to Mike Miles to talk about third quarter results in North America. Mike.

Michael A. Miles, Jr.

Thanks Ron. Good morning everybody. Let’s start with the results for our largest business unit, North American Delivery. The NAD team continued to gain share despite a decline in the core top line. Sales per account to existing customers were soft but customer acquisition remained strong particularly in the mid-market contract business. We saw growth in ink and paper but that was more than offset by weakness in furniture and tech hardware.

Core NAD sales declined 1% year over year to $1.7 billion in Q3 and including $1.1 billion in sales from Corporate Express, our top line grew 61%. Our contract business continues its strong top line performance relative to the rest of NAD although certain sectors like financial services remain weak down in the high single digits.

Operating margin came in at 8.8% of sales, down about 200 basis points from 2007. This reflects the combination of the lower margin in Corporate Express business with our core results somewhat offset by a great job managing the entire P&L particularly in distribution and delivery expenses. Our operational execution remains strong with excellent results in customer service as well as logistics performance including trips per order.

We also continue to make steady progress integrating Corporate Express’ North American operations. During the quarter we announced our new organizational structure and eliminated approximately 1,000 positions. We also completed our net pricing analysis for all of our key vendors and are working with our suppliers to develop programs that reflect the efficiency of selling to one company. We’re reviewing customer profitability and working to improve low margin accounts by for instance consolidating small orders.

Although we were disappointed with the weak top line performance of NAD during the third quarter we’re extremely encouraged with the progress that we’ve made with the integration.

Moving on to North American Retail, sales for the quarter were $2.6 billion down about 5.5% versus Q3 of 2007. Same store sales were down 8%. As was true for NAD, October was particularly weak reflecting the turmoil that we saw in the financial markets. Traffic was down but the more significant decline was in average ticket reflecting very weak sales in durables like furniture and tech hardware. Consumables categories performed better and we actually saw comp store growth in ink cartridges.

Customers are really looking for value right now. That’s the reason our back to school advertising emphasized the low prices at Staples. We continue to see own brand share increase particularly in office supplies. We’ll continue to stress the strong price value proposition of that Staples brand in Q4 and in 2009.

Operating margin in NAR declined 83 basis points to 10.3%. The team delivered improvements in product margin rates and controlled marketing expense and this helped to offset de-leverage on the rent and labor lines which accounted for the entire drop in our operating margin rate. We also continue to manage inventory closely and we reduced inventory per store by 12% compared to last year’s levels. This contributed to North American Retail’s strong cash flow generation during the quarter.

Turning to store growth we opened 32 stores and closed two stores in North America ending the quarter with a total of 1,832 stores. Included in this count is a new stand alone copy and print shop we opened in Massachusetts during the quarter as well as our first two stand alone copy and print shops in New Jersey bringing our total to 12 in the US and four in Canada.

In Q3 we also opened our first store in Austin, Texas which brings our new market entries year to date to six. We remain on track to open 107 stores in North America for the year including a handful of copy and print shops. Next year we expect to open 75 stores with 15 in Canada and 60 in the US, 10 of which will be stand alone copy and print shops.

Given the weak demand environment both North American Delivery and North American Retail have taken steps to right size their cost base as we head into Q4 and 2009. The reduction in new stores I just mentioned is one example but we have addressed every line on the P&L.

In anticipation of continuing weak demand we are reducing marketing spend on less productive vehicles, tightly managing labor rates, getting further leverage in our supply chain, addressing low volume stores and unprofitable SKUs and reducing G&A. These measures should enable our North American business units to continue their industry leading profitability even in these difficult times.

With that I’ll turn it over to Peter to talk about International. Peter.

Peter Ventress

Thanks Mike. In International, sales for the third quarter from our core business was $683 million down 1% in US dollars and flat in local currencies versus Q3 of last year. Including the impact of Corporate Express results Q3 sales were $1.6 billion, an increase of 127% in US dollars and 129% in local currencies. Operating margin came in at 3.55% of sales, an increase of 21 basis points from 2007. The margin performance during the third quarter reflects the addition of Corporate Express as well as solid profit improvement in both our core retail and catalog businesses in Europe.

In European Retail, comps declined 6% and we saw negative comps across all countries with the exception of Germany. Core office supplies, copy center and business services comped positive but were more than offset by the negative performance in computers, furniture and business machines particularly in the Netherlands and Portugal where we have a higher mix of technology.

While the top line was weaker than expected, the retail team did a great job managing expenses to drive strong profit improvement versus the third quarter of 2007. We added two new stores in Portugal and one new store in the UK and ended the quarter with a total of 334 stores across Europe.

On the Catalog side, sales softened with strength in Italy and the UK offset by weakness in France. Operating income improved, however, driven by strong gross margin improvement and cost controls across the entire P&L. Our operational performance continued to gain momentum as we saw improvements in our customer satisfaction and perfect order metrics while driving significant growth in web penetration.

In Contract, we had a number of new customer wins in our strategic customer segment and benefited from our pan European merchandising initiatives. We successfully opened a new warehouse in Germany and drove expense reduction compared to Q3 of 2007 through a number of cost controlling initiatives.

In terms of our progress integrating Corporate Express we finalized our new organizational structure to support our new multi-channel offering and began to integrate back office and supply chain operations. We completed initial vendor pricing negotiations both for the products we sell and also indirect goods. We also began the process of re-branding Corporate Express to Staples which will be completed late next year.

Our Printing business in Europe saw a decline in sales through Q3. Since most printing machine sales are tied to some form of financing and many customers are restricting their capital expenditures, new orders also slowed during the third quarter. To help offset slowing machine sales we continue driving sales of service, supplies and spare parts.

Turning to markets outside Europe, sales in our high growth markets remain strong in China, India and South America and in late November we opened our second store in Argentina. Although top line growth in our International business slowed during the third quarter our margin improvement plans are on track and we’re excited about the opportunities the integration brings to the business.

And with that I’d like to turn it over to John Mahoney to review our financials.

John J. Mahoney

Thanks Peter. As we previously announced the company took three special charges which impacted our GAAP earnings during the third quarter. As a result of our decision to move toward one global Staples brand the legacy brands associated with Staples’ European Catalog will be eliminated over time.

We recorded a non-cash pre-tax charge of $124 million or $0.11 per diluted share in the third quarter reflecting our plan to discontinue the use of trade name Staples obtained from the 2002 Guilbert acquisition. The company also recorded a pre-tax integration and restructuring expense of $9 million or $0.01 per diluted share related to Corporate Express during the third quarter.

Additionally, we’re developing tax planning strategies to optimize the benefits of the net operating losses of Corporate Express. As a result of our evolving plans we recorded a non-cash charge of $57 million or $0.08 per diluted share which resulted in a one-time increase to the company’s effective tax rate in the third quarter. We plan to finalize our tax planning strategy to mitigate the financial impact of this charge in the next three to six months.

The strengthening of the US dollar during the third quarter was a modest drag to the top and bottom line. The negative impact to core sales was about 100 basis points and EPS was reduced by less than $0.01. Gross profit margin decreased by 231 basis points to 26.8% during the quarter. This decline reflects the combination of the lower margin Corporate Express business, offset by the gross margin improvement in our core business.

While our teams continue to do a great job controlling expenses we don’t have the sales productivity to leverage fixed expenses like rent which is once again a significant headwind. Excluding extraordinary items from the Q3 2007 results SG&A leveraged 112 basis points versus last years third quarter to 18.9% of sales. This improvement was the result of combining the lower SG&A of Corporate Express with our core SG&A.

Year to date CapEx came in at $244 million, down from the $316 million we spent for the same period in 2007, largely due to more disciplined spending in the face of a tougher economy. With strong operating cash flow of approximately $1.2 billion we’ve generated $921 million in free cash flow year to date versus free cash flow of $526 million in the same period last year. We now expect to generate more than a billion dollars in free cash flow this year after spending between $400 and $450 million in capital.
As we look ahead to next year we continue to look for ways to trim capital expenditures and now expect to spend about $400 million in 2009. Next year’s numbers include the effect of a full year of capital required for Corporate Express’ business, so this reflects a significant reduction from this year’s spend. At the end of the third quarter, Staples had approximately $1.6 billion in liquidity including cash and cash equivalents of about $888 million and available lines of credit of about $686 million.

While we’re on the topic of liquidity, I’d like to give you a quick update regarding our acquisition financing. Staples’ balance sheet remains strong and we’re pleased to have a very supportive diversified bank group. We have a BBB credit rating and we’re committed to maintaining a solid investment grade rating. Our business generates strong predictable cash flows. Already we’ve been able to reduce borrowings from our bridge loan by about $500 million and paid off our $400 million term loan, the final $150 million of which was paid down after the end of the third quarter.

As a result, we’ve already taken care of a significant portion of our acquisition debt refinancing needs and have a $2.5 billion of the bridge loan to refinance. Our acquisition bridge facility doesn’t mature until July 2009. However; we’re reviewing all financing options and are very confident that we’ll obtain the best possible permanent financing for Staples. We expect to draw from the most attractive resources in the market which could include bond issuance, bank financing, and securitization of receivables.

We’ll also be more aggressive with using our cash flows to pay down debt since our cost of debt has clearly become more expensive and we want to minimize the term of debt issued at high rates. Despite the challenging operating environment we expect to continue to generate lots of free cash flow in 2009 in the billion dollar range.

In terms of next steps, we continue to evaluate the environment and are prepared to take advantage of windows of opportunity. We expect to file a registration statement with the SEC in conjunction with these preparations to refinance our acquisition debt in the next few days. Since we haven’t been in the bond market since 2002 we’re looking forward to reacquainting bond investors with the Staples story in the near future.

While this market has been a little tough for retailers we’re confident that fixed income investors will appreciate our B to B focus with delivering now 60% of our sales, the predictability of our cash flows as well as our geographic diversity.

Turning to future earnings performance, we expect to continue to achieve good results in a volatile demand environment. We’ll continue to provide guidance on factors that will influence profitability such as anticipated synergies from the Corporate Express integration, interest expense, amortization of intangibles and restructuring costs. While our goal is to provide as much transparency as possible we aren’t providing specific sales guidance for the fourth quarter 2008 or for next year as a result of the difficulty in forecasting in the current volatile environment.

As you know, October sales dipped below the trend we’d seen for the previous several months and we haven’t yet seen any signs that demand is improving from this lower level. Q4 is always difficult to forecast since we make a disproportionate percentage of our profits for the quarter in the month of January. So in this choppy environment it will be even tougher than usual to predict earnings.

Turning to the line items that we can help you with, we expect acquisition related amortization expense to be $30 to $35 million in the fourth quarter and $110 to $120 million next year. Integration and restructuring expense is expected to be $10 to $15 million in the fourth quarter and $50 to $70 million next year. Our forecasted incremental net interest expense is $60 to $70 million in the fourth quarter and $220 to $250 million in 2009.

In addition, keep in mind that we expect financial currency headwinds to negatively impact diluted earnings per share by approximately $0.03 in Q4 and this will likely remain a drag on earnings in early 2009. So even though we’ve got some tough headwinds we’ll continue to drive good results and we’ll generate strong cash flows. We’ll continue to manage our business aggressively, controlling expenses tightly and exercising strong capital discipline.

Thanks for your time this morning and now I’ll turn it back to Shenel, our conference call moderator for Q&A.

Question-and-Answer Session

Operator

Ladies and gentlemen, if you like to ask a question, please key “*” followed by “1” on your touchtone telephone. If your question has been answered or you like to have your question removed, please key “*” followed by “2”. All questions must be submitted at this time in order for your question to be registered. Again, please key “*1” and we will pause for a moment to compile a list of questions. Your first question comes from the line of Oliver Wintermantel of Morgan Stanley.

Ronald L. Sargent

Good morning Oliver.

Oliver Wintermantel – Morgan Stanley

Good morning guys. Regarding your gross margin, can you break down your gross margin performance in more detail, for example how much of the decline was due to occupancy and what was the gross margin in core Staples business excluding Corporate Express?

John J. Mahoney

Sure. I think there are a lot of moving parts here including some of the impact of our synergies coming from the Corporate Express transactions so I’m going to talk in purely broad terms. I think in the NAD business, as we mentioned the Corporate Express margin is generally slightly lower than Staples and so if you take a look at the gross margin performance you would have seen an improvement in our core and about a third of the difference relates to the lower rate in Corporate Express.

In our Retail business there are a couple things in play. First of all, as we’ve seen a little bit better mix of our office supply items we’ve seen an improvement that comes from that because the tech mix is slightly lower with lower margins. At the same time, we’ll continue to see relatively stable pricing so we’ve maintained margins on most of our core items at the same levels that we’ve seen historically.

So, the majority of the deleverage or the majority of the reduction in gross margin in North American Retail really comes from the de-leveraging that comes with rent and some of the other fixed expenses and distribution for example.

Oliver Wintermantel – Morgan Stanley

Okay, that’s very helpful. Thanks. Regarding your North American Retail stores have you reached a minimum store label levels yet or do you have more room to cut costs if you have to.

John J. Mahoney

Well, let me ask Demos Parneros to handle that one, Oliver.

Demos Parneros

Thanks John. The label line is one that we manage very, very closely, I would say week to week and with the lower sales per store we do have a large percentage of stores at that minimum. The thing that I’m pleased with is our ability to reduce a lot of the unnecessary work and tasks that are really not needed at this point. So, we’ve focused a lot more on the elimination of those types of things versus labor hours that a customer is are facing.

We continue to have pressure obviously as sales are tough but I think overall we balance the customer service numbers very nicely, in fact are delivering record customer service numbers this year once again above last year. We’re taking a very careful close look, week to week, and its working out well.

Ronald L. Sargent

It’s safe to say that some of that labor expense is part of the de-leverage because at some point you’re not going to cut any more because you don’t want to disrupt the customer.

Oliver Wintermantel – Morgan Stanley

Great. Thanks very much.

Ronald L. Sargent

Thanks Oliver.

Operator

Your next question comes from the line of Matthew Fassler of Goldman Sachs

Matthew Fassler – Goldman Sachs

Thanks a lot. Good morning. How are you? Two questions. The first relates to Corporate Express delivery business, if you could help us out with the organic growth that Corporate Express delivery is seeing on the same terms or same scale as you discussed the Staples business. Are they seeing growth or are they seeing attrition and how much of that would you ascribe to environment and how much would you ascribe to the natural attrition associated with a deal?

John J. Mahoney

Yes, let me ask Doody to handle that one.

Joseph G. Doody

First Matt, there’s really very little that would be due to any change from doing business with us. As far as the deal it’s been really -- no disruption with our customer set out there, we’re very happy with the continuation of our existing customers from within CE. So, if you look at pure growth in the quarter, our NAD core business was down 1% and that’s pretty consistent with what our CE business was for the quarter.

Matthew Fassler – Goldman Sachs

Great. And my second question relates to Retail, some of your competitors have started to discuss more sizeable store closings in some detail most likely at year end and presumably more of that is coming. Would that at all change the way you think about your real estate program as perhaps more capacity comes out of the market or is that already factored into your thought process as you’ve grown?

Ronald L. Sargent

I think that’s probably factored into our thought process. I don’t see it changing our real estate program for next year because I think there are a lot of other issues. You’re looking at minus eight comps that affect your real estate program. You’re looking at trying to find great real estate which affects your real estate and you’re also dealing with your capital constraints because we do have a big mortgage that we’re going to have to be paying back over the next couple of years.

The other thing we’ve done is entered six new markets this year which I think is also a reflection that we think that stores growth makes a lot of sense for us going forward and we’ll continue to press our advantage in those markets where we can.

Matthew Fassler – Goldman Sachs

Do you think 75 stores is still a good number for North America for ’09 or would you consider pulling back on that just to conserve the capital?

Ronald L. Sargent

I think 75 stores is a good number in fact we’re probably committed to most of those at this point and ten of those 75 is the copy shop concept that we’re very excited about.

Matthew Fassler – Goldman Sachs

Great. Thank you so much.

Ronald L. Sargent

Thank you Matt.

Operator

Your next question comes from the line of Colin McGranahan of Bernstein.

Colin McGranahan – Sanford C. Bernstein & Co., Inc.

Good morning, a couple of questions. First is an easy one. Can you tell us what synergies you achieved in the third quarter?

John J. Mahoney

The synergies that we’ve achieved so far are as we said I think at Analyst Day less than $0.01 a share in the third quarter.

Ronald L. Sargent

It’s primarily at this stage buying and we’re beginning now to see some of the G&A savings as well.

John J. Mahoney

As you can imagine many of the -- particularly in the things that are related to the structure of the workforce and so forth it will take some time before you start to see the savings kick in and we announced our new organization on October 1st and we’re beginning to see the impact of that but tried to be very fair with all of our associates. They’re going to continue with the business for at least 60 days and in many cases where we’re adapting systems and so forth it will be even longer than that.

Colin McGranahan – Sanford C. Bernstein & Co., Inc.

Okay, the 1,000 headcount reduction while it’s been announced it’s not yet really accruing on a gross basis or even on a net basis to the P&L yet?

John J. Mahoney

That’s accurate.

Colin McGranahan – Sanford C. Bernstein & Co., Inc.

Okay. Secondly, just North American Delivery margins, can you talk at all about that, how those margins look excluding the Corporate Express impact?

Ronald L. Sargent

Pretty good. I think it’s fair to say Colin I’m very proud of the NAD team in spite of the distraction if you will from the integration they did just a great job of continuing improvement in distribution and delivery expense and as well as leveraging SG&A. We did book some small one time catch up money due to purchasing parity in the quarter and that did help our margin a little bit. We don’t expect to see that benefit in Q4.

Also, our sales trends did worsen a bit through the quarter so that our core business was declining a little bit more at the end of the quarter than it was at the beginning and if unemployment continues to rise that’s a concern as we look forward into the fourth quarter.

Colin McGranahan – Sanford C. Bernstein & Co., Inc.

Okay. And then similarly just looking at North American Retail margins down 83 bps given the de-leverage impact of a high single digit negative comp I thought that was an exceptionally good margin performance much better than what we had expected. Was there much benefit in there from synergies or Corporate Express and I know you talked about reducing some of the non-value added labor but maybe a little bit more clarity on how you’re able to minimize that margin erosion so well.

John J. Mahoney

You’re talking about overall operating not just gross margin, Colin?

Colin McGranahan – Sanford C. Bernstein & Co., Inc.

I’m talking about NAR margins that were only down 83 basis points in total.

John J. Mahoney

Got you, got you. You are right. I think as we said the team has done a really spectacular job of looking at absolutely every area where we can reduce work, store labor is a great example. Demos mentioned that our process improvement teams have been in the stores taking a look at ways to reduce work so we can maintain as much labor as possible directly serving customers.

The work that they’ve done in distribution and delivery has been outstanding. Bill Ross and his team have worked really hard to make sure that we do a good job of keeping the stores in stock and at the same time reducing the number of trips per week to stores. Then I mentioned the mix earlier that has an impact on our gross margin that’s helped us well. I think part of that is that when you have a better mix of products you don’t see as much de-leverage on the operating margin rate because you’re losing effectively lower quality sales in the negative column.

Colin McGranahan – Sanford C. Bernstein & Co., Inc.

Okay, good and just a follow-up question. Given that you’re not giving guidance for the fourth quarter would you be willing to give us a quick update on November and how Black Friday turned out for you?

John J. Mahoney

Mike.

Michael A. Miles, Jr.

I think you heard John say during his comments that October was a softer month for us in Q3 and that November didn’t really change the trend and I think that’s true for Black Friday as well that our sales trend has continued. We had opted to be less aggressive with our discounting for Black Friday this year and we had better attachment selling so our margin dollars were good and about what we expected on that day.

But as you know Colin it’s only one day for us in one channel and it’s a lot of consumer business and it’s not very important to the quarter overall. Frankly in recent years Black Friday hasn’t been a very good predictor of what the holiday would look like. We’re taking a very conservative approach to the holiday from a consumer retail standpoint and I think based on that we’re on a good place from an inventory perspective as we get into the holidays.

Colin McGranahan – Sanford C. Bernstein & Co., Inc.

Okay. So, it sounds like on the retail basis negative double digit comps and in Delivery probably running down worse than the negative one that you reported on a core basis?

Michael A. Miles, Jr.

I don’t think we’re going to get into doing daily comp reporting, but I think given that -8 that we had for the quarter and the fact that October and November have been weaker you’re more right than wrong on the Retail side anyway.

Colin McGranahan – Sanford C. Bernstein & Co., Inc.

Okay, great. Thank you. Good luck.

Michael A. Miles, Jr.

Thanks Colin.

Operator

Your next question comes from the line of Chris Horvers of JPMorgan.

Chris Horvers – JP Morgan

Thanks. Good morning.

Ronald L. Sargent

Good morning Chris.

Chris Horvers – JPMorgan

Can you talk about how you’ll approach the incremental volume discounts that you’ll get next year and philosophically whether given the environment you look to maybe save those and enhance the profitability during a tough time or is this a time that you think you can go out and really go after market share.

Ronald L. Sargent

I wish you could tell me how tough next year is going to be and I could probably better answer the question. But let me start and I’ll let John add in. I think we’re going to probably do both. I think we’re going to use some of those margins to invest in the business for longer term growth and I think depending on how good or bad the economy is I think we’ll bring some of it to the bottom line. So John.

John J. Mahoney

It’s almost an accounting answer, this is a unique opportunity for us to make the best deal we can with our vendors and so we’re going to make as good a deal as we can, as quickly as we can and from an accounting perspective you account for when it comes, its hard to move it around too much.

Chris Horvers – JP Morgan

How the vendors responded so far in the negotiations and are you getting the sense that maybe your competitors on the other side are going to them saying hey look if you give them another 100 or 200 basis point discount you’re really going to put us at a disadvantage. How do you think that whole dialog is occurring?

Ronald L. Sargent

Chris, I have no idea what conversations are occurring with our vendors and our competitors. I do know that we’re booking $30 billion in revenue and for many of our vendors we represent the largest and greatest opportunity to drive their business not only in retail and also in delivery, not only with small customers but also large customers, not only in the United States but in 27 countries around the world and I think most of our vendors are working with us very well not to just reduce our costs but to improve productivity on both sides and most importantly, which is what we’re all after right now is to drive more top line.

Chris Horvers – JP Morgan

And then one final, just from a tax rate perspective how should we think about the next few quarters in our models?

Ronald L. Sargent

John.

John J. Mahoney

I think we mentioned that we have this impact of what are really a number of foreign tax credits that we booked this quarter under the accounting rules because as we sit here today we don’t have firm tax planning strategies in place to use those. We’ll continue to work to develop those to the extent that we can -- you may see some benefit in our tax rate as a result of that but overall I think you should think in terms of a steady state rate as you’ve seen all year on into next year.

Chris Horvers – JP Morgan

Thank you.

Operator

Your next question comes from the line of David Strasser, Bank of America Securities.

Sharon Lee – Bank of America Securities

Hi. Good morning. It’s Sharon Lee for David Strasser.

Ronald L. Sargent

Good morning.

Sharon Lee – Bank of America Securities

Good morning. It’s a different kind of question I have for you. Have you seen the Sam’s Club in Houston focus for small business customers? Just in case you haven’t seen it it’s got a heavy emphasis on office products, it’s got a copy and print center and you know the marketing for that club is much focused to the small and medium sized businesses that are I presume Staples customers as well. Do you feel like you need a strategy to address that format and I know it’s only a test at this point but what is the impact for you and the other office supply retailers if these clubs decide to pursue this stronger.

Ronald L. Sargent

We’ve seen the Sam’s Club on many occasions. I’ll ask Mike to give some color commentary. I think the answer is we have a strategy that we think competes aggressively everyday with the clubs and there have been a lot of tests over the years not only with Sam’s but also in Costco and others. We obviously monitor everything that they’re doing. We’re obviously on top of what they’re doing and we feel pretty good about our offering to our small business customer. Mike, you want to add about your visit there?

Michael A. Miles, Jr.

I think both Demos and I have been; we pay a lot of attention to just about everything Wal-Mart does obviously in our space and looking at that particular store it felt to me like it was more pointed at vending machine refills and small business that was in the food and beverage than it was really at the office supply. They put the office supply assortment in the old tire part of the building and they’ve opened a copy center which has all the equipment but it’s a long way between that and being a convenient and easy solution for a small business. And I think that’s what we’ve built our differentiation on relative to the clubs over the last several years and certainly in these tough economic times the club alternative is going to be more interesting and I think that’s the reason that we focus in this kind of a period on the more value strengths of our business like own brand and the rewards program which the clubs really don’t have as an alternative.

Sharon Lee – Bank of America Securities

Got it. Fair enough. Thank you.

Michael A. Miles, Jr.

Thanks Sharon.

Operator

Your next question comes from the line of Michael Baker of Deutsche Bank.

Michael Baker – Deutsche Bank Securities Inc.

Hi. Thanks. Can you discuss the Corporate Express stand alone trend internationally as you did with the delivery business, you said I think it was down 1% on the delivery business, how was that internationally?

John J. Mahoney

I’ll let Peter answer that one.

Peter Ventress

Obviously we’re talking mainly Europe here and Australia, we’ve seen a slight weakening in the third quarter of our sales as is the case across the rest of the world, Europe particularly, most countries were down on the top line and we managed to offset that with cost reduction and to a certain extent margin improvement as well. So, it’s getting tougher as the year progresses in Europe and Australia.

Michael Baker – Deutsche Bank Securities Inc.

I think the core Staples business was said to be down about 1% was the core Corporate Express business, internationally down, perhaps worse than that because you don’t have stores that you’re opening? Is that fair to say?

Peter Ventress

We don’t have any stores in the former Corporate Express business, actually we do but not to the same degree or same scale. So the delivery is what we’re talking about and that was justly slightly more down than the Retail.

Michael Baker – Deutsche Bank Securities Inc.

Okay. Thanks. And then one other follow up. You said the margin was good in the North American Delivery business ex. Corporate Express. Is it too aggressive to say that it was up ex. the Corporate Express?

Ronald L. Sargent

Yes, it was up. In fact, I think we reported it was up a little over 12% in our core NAD business in terms of earnings for the quarter.

Michael Baker – Deutsche Bank Securities Inc.

Okay. Okay, good. Thank you very much.

Ronald L. Sargent

Thanks Mike.

Operator

Your next question comes from the line of Alan Rifkin of Merrill Lynch.

Alan Rifkin – Merrill Lynch & Co.

Yes, a couple of questions Ron. With respect to the $300 million in synergies that you’re backing over the three-year period, can you maybe shed some color on by year what proportion of the $300 million you expect to capture at this point relative to your original expectations? Then I have a follow up.

Ronald L. Sargent

We’ve said in the past probably of the three years probably we get 40% in the first year, 30% in the second year and 30% in the third. It looks like we’re tracking pretty much along those lines. Early synergies we’ll see on the buying side and the G&A side. I think the second year they’ll be more G&A synergies as well as just continued lapping of the buying synergies and I think the third year is more going to be around systems consolidation and warehouse consolidation and I think that’s probably the opportunity in the third year. I think it’s like 40/30/30 would be my guess.

Alan Rifkin – Merrill Lynch & Co.

Okay. Thank you. And then are you willing to say that you are absolutely committed to allocating the expenses to integrating the two businesses irrespective of what the revenues look like? Let’s say that the economic environment remains difficult even throughout 2010, will you scale back a little bit via integration or should we assume that you are committed to integrating it as quickly as possible.

Ronald L. Sargent

We’re going full speed ahead. That’s the greatest opportunity for our company not only in the short term because I think there is big money to be had there but I think long term to position us extremely well for whenever this recession is over. I think that would encourage us to go as fast as we possibly can, at the same time not disrupting customers along the way.

Alan Rifkin – Merrill Lynch & Co.

Okay. Thank you very much.

Ronald L. Sargent

Thank you Alan.

Operator

Your next question comes from the line of Stephen Chick of FBR.

Stephen Chick – FBR Capital Markets

Hi. Thanks. Just a couple of questions, in fact to clarify and I think it was Joe, the catch up purchase parity adjustments that you had within NAD margins, can you give us what the numbers were of those, actually if they were material or not?

Joseph G. Doody

No Stephen, they’re pretty small. There was some there but fairly small not very material.

Stephen Chick – FBR Capital Markets

Okay. And secondly, the $300 million in synergies Ron, I think you said a third of those come from the vendor and the buying side. What piece of that is your comparing list between what you were buying at, what Corporate Express was buying at versus having to leverage your size a little more to get a little extra as a combined company?

Ronald L. Sargent

Well, I think there’s two phases to the synergies on the buying side. One is the parity and that’s basically getting Corporate Express prices the same as Staples or in another case if Staples was paying higher we want to lower our prices to Corporate Express levels but we haven’t seen a lot of that. Phase two, in some cases they’re occurring separately with some vendors, and some categories it’s occurring all at the same time. Phase two is leveraging the additional buying power and buying clout and scale of the combined companies.

We’ve spent most of our time so far in the US and we have now begun the process in Canada and Europe. But as I said, I think things are coming in as well as we expected them to come in on the purchasing synergy side.

Stephen Chick – FBR Capital Markets

Can you get refined enough to say that of that third a half comes from as you say phase one and the other half comes from phase two or is that too granular at this point?

Ronald L. Sargent

It’s a little granular but I would think probably a very small percentage is the parity, I’m thinking 20% and I think probably 80% is the combined scale if I were just picking a number.

Stephen Chick – FBR Capital Markets

Okay. That’s helpful and so related to that I think Joe mentioned that with both sides of the business down in terms of sales and volume, how does that impact the synergy number. If the core business or if the NAD was down 1%, it kind of sounds like Corporate Express is down 1% for the quarter that implies down, by my math, it’s working down to 3% for the month of October is, if volumes continue to decline does that put, I don’t want to say risk but question in terms of your ability to hit the buying numbers?

Ronald L. Sargent

It’s such a small decline I don’t think there’s any issue at all relating to that. You look at our total quarter excluding Corporate Express we were down 3% for the core company. With Corporate Express we’re up 35%. So, I think it’s not material.

Joseph G. Doody

Just trying to project within 3% three years out our results is way beyond our level of precision.

Stephen Chick – FBR Capital Markets

Okay. That’s fair and then lastly just to clarify, if I’m right and the core business in October is down roughly 3%, when you say November has kind of looked the same, are you saying right now for the month of November you’re running down 3% in NAD, is that a safe assumption.

Ronald L. Sargent

I think Mike answered the question. We’re not going to get into monthly reporting of comps because again our big month for the quarter is January and it’s hard to project on what’s happened the last few weeks on how the quarter’s going to shape or shake out.

Stephen Chick – FBR Capital Markets

Okay. That’s helpful. You know in this environment we try and grasp on anything we can. So, thanks Ron. I appreciate it.

Ronald L. Sargent

Thanks Steve.

Operator

Your next question comes from the line of Lincy (ph) of Credit Suisse.

Lincy – Credit Suisse

Hi. This is Lincy from Credit Suisse. I have two questions. The first one is what are the alternative options to refinance the $2.5 billion bridge loan if the unsecured bond markets remain as weak as they are now? And the second question is have any of your vendors asked for tighter payment terms like a decrease in days payable? Thank you.

John J. Mahoney

We feel with a company that’s generating a billion dollars of free cash flow a year the need to be able to finance $2.5 billion that we have lots of alternatives. I mentioned the unsecured bond market. I mentioned how strongly our banks have supported us. I also talked about securitizing things like our receivables as a way of getting some financing.

Frankly, the issue is much more a matter of cost than it is a matter of access. Although, the bond markets have been weak we believe that there will be plenty of windows of opportunity between now and July of 2009. I think the reason that we’re approaching it cautiously is we don’t want to walk in a lot of long-term debt with rates that we consider to be higher than what we would pay over any long period of time.

At the same time, we recognize that access is really important and we will use windows of opportunity to eat away at the debt as those opportunities present themselves. So, I think it’s difficult to say, it’s difficult to predict where the markets are but we will have a number of alternatives to the public bond market although like I said I think the public bond market is available to us certainly between now and July of 2009.

Ronald L. Sargent

I think in answer to your second question in fact terms are getting better with vendors as we negotiate synergy savings.

Lincy – Credit Suisse

Okay. Thank you very much.

Ronald L. Sargent

Thank you Lincy.

Operator

Your next question comes from the line of Joe Feldman of Telsey Advisory Group.

Joe Feldman – Telsey Advisory Group

Hi guys. Good morning.

Ronald L. Sargent

Good morning.

Joe Feldman – Telsey Advisory Group

One question about the re-branding of some of the brands in Europe from the Guilbert acquisition. How’s the reception been among your client base because I know initially you guys didn’t want to re-brand it, you thought that it had strong enough brands. It makes sense to me to have one uniform Staples brand worldwide but I’m just curious about how the customers are handling it.

Ronald L. Sargent

We haven’t done much yet at this point. We’re going to do it very cautiously and very carefully. We’re going to start by introducing some Staples brand product. In fact, I think you’ll see some Staples red box copy paper. We’re going to do I think very carefully over the next couple of years evolve the Staples brand product and then we’ll probably do some co-branding and then at some point we’ll just go with Staples. At this point don’t have a lot to report.

Joe Feldman – Telsey Advisory Group

Okay, got it. And then one other question, just on inventory. I know you guys did a terrific job in the quarter controlling it here, at least in the US on a store basis. Are there any pockets where you still have too much or too little or you maybe bought in anticipation of the holiday season where you feel like sell through wasn’t as strong as you would have liked, just any inventory issues?

Joseph G. Doody

No, I actually think we’re in pretty good shape. I think the team’s taking a pretty careful look at this. We’ve actually been very focused on this line since the beginning of last year. I think we talked about even Black Friday earlier in the call that we took a little bit of a more careful approach overall this year and I think as a result we are pretty clean at this point. We’ve done a nice job on it.

Joe Feldman – Telsey Advisory Group

Good. Thanks. Good luck for the quarter guys. Thank you.

Operator

Your next question comes from the line of Dan Binder from Jefferies.

Dan Binder – Jefferies & Co.

Hey guys, this is Dan Binder.

Ronald L. Sargent

Good morning Dan.

Dan Binder – Jefferies & Co.

Good morning. Just a follow on to one of Colin’s questions, you talked about the synergies in Q3 being less than $0.01. I was curious, can you give us any sense of what the synergies in Q4 might be worth based on what you know today.

John J. Mahoney

I think we said at Analyst Day that we would expect the synergies to begin to build a little bit but won’t be substantially more. It won’t have a material affect on Q4 either.

Dan Binder – Jefferies & Co.

Okay and then on the CapEx you noted $400 million next year that obviously includes Corporate Express, can you give us a little bit of an idea what the core Staples CapEx business is going to?

John J. Mahoney

Again, within $50 million I would say that it would be in the $325 to $375 million range.

Dan Binder – Jefferies & Co.

Okay. You talked about January being an important month, if you look at the mix of business that you typically do in January does that tend to be more consumable driven or in mix or more durables?

Ronald L. Sargent

In January much more office supplies, consumables and then in December much more durables, holiday selling is more durables, January is much more office supplies and consumables.

Dan Binder – Jefferies & Co.

Okay, and then based on what you saw recognizing it was one day but the durables mix on Black Friday did that look better than it had been in recent weeks?

Michael A. Miles, Jr.

Black Friday is all technology for us. The thing that was better if anything changed on Black Friday was we sold more in the way of attachments and services this year than we have in years past. The day for us is very little in the way of office supplies business going on, on Black Friday.

Dan Binder – Jefferies & Co.

Okay. Can you give us a refresher on your exposure to the financial industry in terms of your NAD business?

Ronald L. Sargent

Joe.

Joseph G. Doody

Yes Dan, financial markets have been one of the worst sectors for us, so it’s down on a year to date basis a high single digit. As a percentage of our total business in NAD is somewhat under 10%. It has been a factor in our business no doubt especially among our Fortune 1000 customer base.

Dan Binder – Jefferies & Co.

Okay and then last question. Any preliminary thoughts with regard to what the distribution network might look like. I realize that that probably hasn’t been your primary focus right now but any thoughts since we last met.

Joseph G. Doody

No further thoughts Dan, really it’s -- we’ve got about 22 facilities here in the US, CE has 21. There’s clearly going to be a need to rationalize that down. We have some access capacity but it’s not like you have full buildings that you can completely close down easily and move into adjacent buildings or buildings in the same city. So, we’re undergoing our study, we expect to have some results coming from that in detail in the first quarter of the year and we’ll begin executing against that throughout ’09 and as Ron said the real results of that will come out in year two, year three.

Dan Binder – Jefferies & Co.

Great. Thanks.

Joseph G. Doody

Thanks Dan.

Operator

Your next question comes from the line of Brian Nagel of UBS.

Brian Nagel – UBS Investment Research

Hey, good morning.

Ronald L. Sargent

Good morning Brian.

Brian Nagel – UBS Investment Research

A couple of questions. First off, with respect to the retail business, in particular the real estate you’ve talked you slowed the growth into 2009. The first question there is as we think about going beyond 2009 I assume you’re slowing the growth because of the economic environment. Should we assume then that you’re going to open more stores potentially in 2010, 2011 if the economy begins to improve? Then related to that too with so many closings out there, I know a lot of the stores that have started to close are not the size of Staples unit but are you starting to see costs of new real estate as you talked with landlords coming down?

Ronald L. Sargent

Let me take a stab at both of those. I would assume for planning purposes that ’10 looks a lot like ’09. It’s not just the slowing economy; it’s also the capital dollars that we want to re-deploy to pay off debt. Will there be a few more, will the mix change a little bit between copy shops and stores I think it’s premature to know that. But I think we’re going on the assumption that ’10 looks a lot like ’09 in terms of new store growth. Second question, Demos.

Demos Parneros

The cost of real estate, we are seeing obviously a little bit of rent improvement out there for obvious reasons, a lot of inventory out there, you mentioned the closings and there’s just been a general slowdown in general. As we’ve said, we are moving very carefully with the ’09 program and really not committed to yet the 2010 program. The thing that you should also keep in mind is that we continue to open smaller, more efficient stores out there so the combination of the small copy and print shops as well as some of our in fill stores just gives us a lot more flexibility with more productive stores no matter how we choose to go forward in these two years.

Brian Nagel – UBS Investment Research

Okay and then the second question just on the overall change but on the Corporate Express acquisition since we met with you guys in late October at your Analyst Meeting, any further surprises as you just work through the integration there?

Ronald L. Sargent

No, not at all. Most acquisitions you’re surprised in one way or another. I think the Corporate Express acquisition has been no surprises at all. It’s going just the way we thought it would go and we hoped for a very smooth integration and that’s turning out to be the case.

Brian Nagel – UBS Investment Research

Best of luck for the balance of the year.

Ronald L. Sargent

Thanks Brian.

Operator

Your final question comes from the line of Gary Balter with Credit Suisse.

Ronald L. Sargent

Good morning Gary.

Gary Balter – Credit Suisse

Good morning. You’ve opened up in a few new markets, could you just discuss how you’re doing in those markets, is that a strategy that you feel makes sense, is that a strategy you’re going to continue?

Ronald L. Sargent

Mike.

Michael A. Miles, Jr.

Gary, I think the idea that we had this year was that we now had enough national brand presence and had refined our direct marketing capabilities to a level that we could open two or three or four stores in a market as opposed to the big bang approach that you saw in Chicago or Miami and we’ve been very pleased with what we’ve seen in Houston and Minneapolis and Kansas City and the other new markets that we’ve entered this year, in terms of the sales of those stores, out of the gate. And I think you will see us continue to go to new markets with that approach, not only because it’s working but frankly the size of those markets doesn’t warrant the kind of big marketing push like entering Chicago does. I think it also will play into the way that we do the marketing in the markets like Denver and Miami that we’ve already entered and we’ll put those markets more on the same national plan that we have around the rest of the country. I think that’s going to be some of the savings upside we see in 2009 as well.

Gary Balter – Credit Suisse

On a bit more macro level we all sit here and look at the macro deteriorating in front of our eyes and deteriorating into ’09 and 2010 and you’re taking great steps internally obviously to deal with that. If you were in a higher position, like if you’re looking at if from a government point of view or economic point of view what are steps that you’d like to see that you think will help alleviate this, at least correct it earlier than 2010 or 2011.

Ronald L. Sargent

You’re way beyond my comfort zone since I’m not a government official or an economist. But I do think that the government needs to do a big and significant stimulus program if we’re going to get out of this. We’re going to assume 2009 is going to be a tough year all year long, if it ends before that that’s great news. But we’re going to assume 2009 is a tough year. I’m happy that we’ve announced that we’re in a recession. I think we announced that about five quarters ago and it’s good that we’re already a year into it because typically recessions are 12 to 20 months so maybe that’s a harbinger of good things to come.

But I think significant economic stimulus, I was pleased with President-Elect Obama, he’s all over it and I think that’s a good sign so that when he does get sworn into office in January that we’re going to hit the ground running. So, I think early indications are pretty good and hopefully the recession won’t last all of 2009. In terms of our planning purposes we’ve got to assume that it will.

Gary Balter – Credit Suisse

Thank you.

Ronald L. Sargent

Thank you Gary.

Operator

That concludes the Q&A session. I would now like to turn the call back over to management.

Ronald L. Sargent

Just to wrap up, I’d like to thank the Staples team for delivering good numbers in a pretty tough quarter. While the near-term economic environment remains challenging, I think longer term we’re very confident about our business going forward. We’re going to continue to generate strong cash flows while being careful about how we spend capital. We’re working hard at integrating Corporate Express to get a good return on our investment. We feel great about the people and initiatives we have in place to drive productivity in our retail stores.

And finally, we have tremendous opportunity to drive both sales and profitability in Europe and our high growth markets around the world. Thanks for joining us on this call this morning. We look forward to talking to you again soon.

Operator

Ladies and gentlemen, that concludes the presentation. Thank you for your participation. You may now disconnect. Have a great day.