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The Great Office Supplies Caper

Amazon & Office Products - Who's Equipped to Fight Back?

by Ian M. Elliott | 8/24/17 7:59 AM

Amazon impacts many aspects of our daily lives, from entertainment to web hosting (cloud) services and, of course, in providing for our ability to shop online for a vast array of products. However, while many consumers are raving about Amazon, many business owners have major concerns with regards to the impact they're having on their individual businesses. The pressure resulting from the "Amazon Effect" is relentless and, in all likelihood, it's going to get worse.

The big guys, like Best Buy, Walmart, Target, etc. are all finally waking up to the threat Amazon represents to each of their business models. In waking up, they're starting to figure out how to utilize their assets, and their access to capital, to match and, in the future, to potentially exceed the capabilities of Amazon.

Best Buy, Walmart, and Target are all starting to see encouraging signs of progress.

As can be seen from the data table below, each of these enterprises is profitable and each of them (including Amazon of course) have the potential to access the debt markets to fund business development.


Unfortunately, these developments mean the potential for even more competitive headwinds for the small guys!

Amazon has got ahead largely because of the investments they've made in technology, which in turn, are now forcing competitors to rapidly develop their own as part of their efforts to catch up. This means, for the smaller guys (and yes, that includes office products and supplies resellers) the competition will be coming from a broader base of enterprises besides Amazon.

The better each of these deep-pocketed companies become at providing goods and services to their customers, the more they will also encroach on smaller businesses that fail to invest in similar improvements.

Let's take a more detailed look at how the office products industry is positioned to deal with the Amazon threat. Remember, to close the gap, enterprises may either invest to organically develop what they need or (to help accelerate the process) they may acquire companies that already have what they need. Both approaches require access to capital, capital that may come from retained earnings (profits) or from debt. It can, of course, also come from new equity but, that dilutes existing shareholders, and is often not the preferred path.

The table below shows the main players in the office products and supplies industry and is sorted in descending order of their potential to access new debt.

Click this link for more information explaining the Net Debt to EBITDA ratio and why we have calculated the theoretical debt "ceiling" at 4X EBITDA.

It should be clear that most of the industry players have access to capital. Not only do they all have positive free cash flow, most of them also have capacity on their balance sheets to leverage up on debt if they have to!

In aggregate, twenty-five companies, $356 billion of annual sales, making nearly $25 billion in EBITDA, with the combined potential to access nearly $90 billion in new debt without exceeding an average debt ceiling of 4X EBITDA.

Apart from three companies (plus the three private companies whose leverage we don't know), they all have the capacity for additional debt that may be necessary to fund business development.

We know capital, in a combination of free cash flow and debt, will almost certainly be used for the purposes of making these enterprises more competitive with Amazon. We know this to be the case, firstly because the process is already underway and, secondly, because they have no choice. If they fail to regain their competitive position then, eventually, they will cease to exist!

Is borrowing an option for you? Use this calculator to determine your potential for access to debt for financing acquisitions and technology upgrades for your digital business transformation!

 

The Staples Conundrum:

The recent news that Sycamore Partners is to take Staples private in a $6.9 billion deal is interesting - perplexing even.

Retailers are being forced to change their business models to try and cope with the Amazon threat. Many are going out of business as retail square footage in the United States collapses. Staples have been closing their stores as fast as it's been possible for them to do so because the 40% or so of their top line still generated from brick and mortar is rapidly declining.

Just like Best Buy, Target, Walmart, and many others are now investing substantial amounts to transform their businesses, Staples must do the same.

Unfortunately, it's difficult to see how the Sycamore privatization will help them accomplish this. Pre-privatization, Staple's Net Debt to EBITDA coverage is -.01 - in other words, their short-term cash and cash equivalents are greater than their combined short and long-term debt. They had a borrowing capacity of over $5 billion that could have been used to help transform their business.

Staples tried to use their debt capacity to fund the acquisition of Office Depot but, that deal collapsed in 2016 because of antitrust concerns raised in a lawsuit by the Federal Trade Commission.

Now, post-Sycamore $6.9 billion privatization, a significant chunk of the acquisition costs will end up on the balance sheet as debt. Take a look at the table below showing a rudimentary example of the impact on the pre and post-privatization balance sheet.

If the acquisition debt is placed on the Staples balance sheet, then their borrowing capacity will effectively be reduced to zero! Compare that to Office Depot with $2.2 billion of debt capacity. Who will be the stronger of these two fierce competitors in the future?

However, even if Office Depot does have the stronger forward-looking balance sheet with the flexibility (when necessary) to access capital for funding their competitive fight with Amazon, it doesn't alter the fact that Depot's share price, while 33% above its 52 week low, is 35% below its 52 week high. Office Depot's recent earnings miss was, in part, attributed to the threat from Amazon. So, despite having the potential to access over $2 billion in debt funding, it's by no means going to be an easy ride!  

 

Amazon and Whole Foods Market

In case you may have been thinking Amazon's recent decision to acquire Whole Foods Market for $13.7 billion, and their requirement for $16 billion or so in cash to finance the deal was going to constrain them, then take a look at the table below and think again!

Amazon had no difficulty raising the $16 billion necessary to finance the deal.

We've used rudimentary assumptions with regards to how the two businesses may be merged, what the future balance sheet may look like and made no attempt to account for potential improvements through synergies. However, just adding the acquisition debt along with the existing Whole Foods Market EBITDA, shows Amazon's post-deal "Debt to EBITDA" ratio to still be less than one.

Analysts are not likely to be concerned unless this ratio was to approach the 4-5 range. So, even assuming the lower threshold of a four-multiple, Amazon still has the capacity to take on another $40 billion of debt to fund its ongoing business development requirements. Their relentless charge will continue!

 

What does all this mean for Independent Office Products and Supplies Resellers?

Clearly, office products and supplies resellers do not have access to capital on anything like the scale of the big guys. However, the requirement to implement their business transformation strategy to enable them to compete with the major players is more important now than it has ever been.

What should make up the primary objectives of a business transformation?

  1. Web traffic via brand awareness and marketing
  2. Value proposition and conversion selling
  3. Service and information accessibility
  4. Competitive prices based on business intelligence
  5. Broad product mix

Conclusions:

Office products resellers should not be tempted to believe they can survive in the rapidly evolving digital business environment without comprehensively becoming part of that environment. While there is great merit in the general feeling that nothing beats a "face-to-face" business relationship, it's pretty worthless unless it's backed up with all the digital elements necessary to support the type of service now routinely demanded by customers.

Business survival in the future is about technology supporting efficiency, supporting service, and supporting the provision of a compelling value proposition. Local resellers, who are able to combine the use of technology with personal customer service, may then eventually turn the tables as they develop their competitive advantage the Amazon "machine" will ultimately be forced to figure out a way to deal with.

As an office products reseller, are you still operating in the analog world or are you transitioning to digital with the use of sophisticated digital marketing tactics? You can't survive unless you do, so please check out our SlideShare "executive" summary to help you determine where you are in the process!

Analog Vs. Digital SlideShare Click Here for Access

To improve the future for office supplies dealerships, their websites must become the foundation for digital transformation. Why not check out our free, no obligation, offer for a comprehensive evaluation of your site? Just click the button below.

Website Evaluation Report Free! No Obligation

 

Topics: Business Transformation, Industry News

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