by Marc Bastow | September 14, 2012 1:11 pm
You know the commercials: An office worker wants supplies, she looks at the red button on her desk, pushes it and voila! Staples (NASDAQ:SPLS) let’s you know that “yea, we’ve got that.”
The world’s second-leading Internet retailer behind Amazon (NASDAQ:AMZN) and the office-supply segment’s lead dog certainly does have something. Take note of the private equity sharks circling the waters around the company after news broke that Staples is in play for purchase by a private company.
Thursday’s news came from Fortune, citing “people it did not name” according to Bloomberg Businessweek. It opens the floodgates for speculation and, in case you haven’t noticed, gave SPLS a nice 8% pop over the last 24 hours.
The best part of the story? One of the potential suitors named is original investor Bain Capital — yep, that Bain Capital, of Republican presidential nominee Mitt Romney fame. Bain put $4.5 million into the brainchild of Staples co-founders Leo Kahn and Thomas September back in 1986.
If it ever comes to fruition, a Staples buyout is going to take awhile to bake, as those same Fortune sources suggest at best a late 2012 to first-quarter 2013 probability, due to both the complexity of lining up investors and, of course, the presidential election. So let’s take a little time to think this through.
First, take the presidential connection out of the mix. It has nothing to do with valuation, and even if the purchase price of Staple’s was determined 10 minutes from now, these things don’t close in eight weeks. Romney will either be rich and president in eight weeks, or just plain rich. It has nothing to do with this deal.
What has everything to do with it is the price and how it gets financed. No surprise there as anyone following the cat-and-mouse game at Best Buy (NYSE:BBY) can attest.
So, what kind of price should Staples command? That is a hard one to determine. Staples is the market leader in the office-supply world, with laggards Office Depot (NYSE:ODP) and Office Max (NYSE:OMX) well behind. Staples’ market cap of $8.5 billion dwarfs both ODP’s $698 million and OMX’s $681 million. Staples’ $25 billion in revenue is 2.2 times ODP’s, and fully $23 billion over OMX.
As pointed out by InvestorPlace feature writer Dan Burrows, the entire segment is under siege as competition from Amazon and Wal-Mart (NYSE:WMT) undercut already-low prices, and consumers aren’t beating down the door trying to shop for pens, pencils and folders. In fact revenues and profits are down at all three companies through the second quarter. But what’s interesting is that of the three, only SPLS’s share price is down over the last year.
So, perhaps the PE guys smell an undervalued company. The stock’s 52-week low was just over $10, and the Boston Business Journal is reporting that BB&T (NYSE:BBT) analyst Anthony Chukumba suggested a target price of $17. That’s a very sweet 36% premium over Friday’s morning trade.
Of course, that puts the purchase price at about $11 billion, give or take a billion. And here’s where it gets sticky: Using the Best Buy measuring stick of around 30% equity ($3.3 billion), any equity group would need to line up about $7.7 billion in debt.
Wow, big number.
But unlike Best Buy, this isn’t about an original founder trying to save his own bacon. It’s about investors who think the company can survive and support the proposition.
And it might just make some sense, although I acknowledge the recent trends are just a tad disconcerting: Staples’ quarterly earnings have gone down in each quarter of 2012, but hey, it’s still making money. And while cash and equivalents are near $1 billion, free cash flow has dropped considerably since January, with just $35 billion for the second quarter ended June 30.
Long-term debt is around $2 billion, and an 11 cents-per-quarter dividend drained about $275 million from the coffers in fiscal 2011. Adding another $7 billion in debt might be a big body blow.
You know what? I might’ve just talked myself out of any bullish sentiment for a deal. Here’s another thought: Perhaps somebody (like those unnamed sources) decided to jawbone the stock’s bump up with a rumor.
Like the red button, it worked, at least for now. For the long run, let’s wait and see what happens.
Marc Bastow is an Assistant Editor at InvestorPlace.com. As of this writing he did not hold a position in any of the aforementioned securities.
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