When OfficeMax (OMX) missed Street analysts' first-quarter earnings forecast on May 3, the stock plunged from 49 to 41 as investors bailed out. But not Jack Cunningham, chief investment officer at J. & W. Seligman. He bought shares, because he sensed a turnaround was still in place. And he thought with the stock battered, Staples (SPLS), No. 1 in office supplies, and No. 2 Office Depot (ODP) might look at OfficeMax, the third-largest, as easy buyout prey. The stock has since bounced to 45.05, partly on buzz that, indeed, OfficeMax may find itself selling out. "Purchasing OfficeMax outright makes sense for either of the two larger players, given the instant [earnings] accretion for both companies, at a possible buyout price in the mid-50s," says Cunningham. The three big players have less than 20% of the U.S. retail market and less than 50% of the business-to-business "contract" market. The latter segment was the culprit in the first-quarter shortfall in OfficeMax's earnings. But Cunningham expects operating margins to widen from 3.5% in 2006 to nearly 7% in two years. Goldman Sachs (GS), which has OfficeMax as a client, says the biggest problem, erosion of margins, can be addressed as "highly focused and skilled senior management digs deeper." Goldman cut its 2007 earnings forecast by 42 cents, to $2.23 a share, and its 2008 estimate by 45 cents, to $2.60, but still rates the stock a buy. Staples and Office Depot declined comment. OfficeMax didn't return calls.
Note: Unless otherwise noted, neither the sources cited in Inside Wall Street nor their firms hold positions in the stocks under discussion. Similarly, they have no investment banking or other financial relationships with them.
By Gene G. Marcial