ODP Corp ($ODP) — Write-Up (1/2/2022)

Price: $39

Market Cap: $2bn

Valuation: 3.3x EBITDA

Category: General

$ODP 10yr chart
$ODP 10yr chart

ODP operates under 2 segments — B2B is a distributor of office, cleaning and breakroom supplies to small, medium, and large businesses. Retail operates the ~1100 Office Depot retail stores and the officedepot.com e-commerce site. Since 2017, management has been focused on building up the B2B business.

This is a classic special situation — An upcoming spin-off (or outright sale) of the retail business, some non-core asset sales, and some buybacks to boot. It’s a pretty simple thesis…

At $39/share, ODP is a $2bn market cap. Net cash is $400m as of 3Q21 for a $1.6bn enterprise value. EBITDA was $590m in FY19, $491m in FY20, and $498m during the last 12 months — for a 3.2x EV/EBITDA multiple.

There are 4 separate pieces of value here…

Retail…

In May 2021, ODP announced they would split the B2B and retail segment into 2 separate companies. Then, in June, Sycamore Partners/Staples offered $1bn for the retail business.

The Sycamore offer helps set a market price for the retail business whether it sells or spins. At $1bn, assuming zero net debt, it’s worth $19/share.

This values the retail business at ~3.3x trailing operating income and ~5x 2019 operating income…

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I know, you’re probably thinking the Office Depot retail chain is the most obvious secular declining example out there… A good comparison might be another secular decliner, Yellow Pages, which trades at 3.5x trailing EBITDA less capex… Yellow is seeing revenue and EBITDA falling at a 10-15% annual pace which is much, much worse than the ODP retail segment.

Using the same 3.5x EBITDA less capex — I get $700m in downside value for the retail business or $13.50/share. If the Staples offer is declined, walks, or otherwise falls apart; this is roughly the price I’d expect in a spin-off scenario.

B2B…

This segment is the “core” to the business but is a bit tricky since it was impacted so heavily from COVID.

Competitor Essendant was a similar sized business at ~$5bn annual sales and sold to Staples for ~10x EBITDA in 2019. Prior to that transaction, Essendant had been trading between 6-7x EBITDA and had a decent amount of leverage (which ODP does not). Staples itself sold to Sycamore at a ~5.3x EBITDA multiple back in 2017.

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Clearly, the B2B division was hit hard by COVID after several years of stability. The key question is whether they can return to (and grow from) 2017-2019 sales and EBITDA levels. The latest quarterly results don’t inspire much confidence with sales dropping 2% and EBITDA dropping 9% YoY… Management has made it clear that a turnaround in segment performance is highly dependent on a return-to-office work environment which could be slow with Delta/Omicron running rampart.

Using a 5-7x multiple, I get $26-36/share in value using 2017-2019 averages… This drops to $13-18/share using 2020 EBITDA levels.

CompuCom…

ODP announced in January 2021 they would sell the CompuCom business only a few years after acquiring it for $1bn and on 12/31/2021, they announced CompuCom was being sold for $305m in a combination of cash, debt, and contingent consideration.

We don’t yet know the exact mix of cash vs. other consideration. Regardless of the mix, we’ll call it $5/share in value for now.

Net cash & other stuff…

Net cash at 3Q21 was $400m or $7.70/share and the combined business should continue to generate free cash flow until the spin-off (or sale) of the Retail business.

The share buybacks are where things are starting to get interesting…

Right after Q3 earnings, ODP announced a $150m accelerated buyback and a $150m increase to the existing buyback authorization. Then at yearend, along with the CompuCom sale, they announced another $200m increase to the buyback authorization. An interesting tidbit in that latest release — it was mentioned they’ll have returned “more than” $300m of capital to shareholders in 2021. With $122m already repo’d through Q3, they’ll have bought back ~$180m in Q4 and still have $340m remaining through June 2022.

That’s 15% of the market cap repurchased in 2021 and another 17% available to repurchase in 2022. All without putting a dent in the leverage position.

I think it’s likely we’ll see a share count around 48-49m as of yearend FY2021.

Final thoughts…

There are plenty of risks with this bet but I view it as a low-downside scenario. I would much prefer Retail to be sold instead of spun off but there are regulatory risks in antitrust blocking the Staples buyout. My hope is that management is carefully considering that possibility.

Another item to consider are the unallocated corporate expenses which run ~$100m per year and haven’t really declined the past 4-5 years. My estimates above use a simple 50/50 allocation for these costs. Restructuring costs had been high but in 2021 have worked their way close to zero.

The stock looks poised to work well in 2022 with the CompuCom distraction out of the way. Management is looking increasingly confident in cash generation and intrinsic value with a series of buyback announcements. The spin should allow B2B to trade in-line with Essendant back when it was a public company. And should the Retail segment be spun, it’s likely to have some buyout potential embedded in it; though I would anticipate most of the shareholder base would punt the retail piece in order to keep the B2B piece.

It’s a small starter position for me but may look to increase my holdings with CompuCom cleaned up and the latest buyback announcement. I’d be happy to hold onto the B2B shares post-spin and would look to upcoming investor presentations to see what plans are for that business…