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Office Depot, OfficeMax Merger: 'It's About Damn Time'

NEW YORK ( TheStreet) -- After reports over the weekend indicating Office Depot (ODP - Get Report) and OfficeMax (OMX) are about to announce a merger, investors and analysts appear to be saying: "Finally."

A potential merger could help alleviate the operating struggles of big-box office retailers OfficeMax, Office Depot and Staples (SPLS - Get Report), amid overexpansion and a change in the marketplace with the rise of smaller suppliers such as W.B. Mason and new entrants as big as Wal-Mart (WMT - Get Report), Costco (COST - Get Report) and Amazon (AMZN - Get Report).

"It's about damn time," Oppenheimer retail analyst Brian Nagel said, quoting basketball star LeBron James, in a note to clients evaluating a proposed merger.

"An Office Depot and OfficeMax combination would spur a rationalization of excessive office products retailing real estate and render the sector more capable of managing through a challenged product cycle and competing with new entrants such as Amazon.com," Nagel said.

Investors in Office Depot, OfficeMax and Staples are taking the merger speculation of the industry's number two and three leading players as a positive sign for office suppliers.

Shares of Office Depot (ODP - Get Report) and OfficeMax (OMX) spiked in trading Tuesday on the reports of advanced merger talks. Office Depot surged over 9% to $5.02, while OfficeMax climbed over 20% to $13. Staples, which could be a beneficiary of a deal, rose over 13% to $14.65.

The key to a potential merger and an improving outlook for all players involved centers on store closings, operating synergies and asset disposals, according to industry analysts. Meanwhile, the work of activist funds such as Starboard Value, Office Depot's largest shareholder, may have helped to put companies in a position to try a merger.

"We believe that a merger has made sense for years and that the recent monetization of key assets provides the necessary cash flow to pay for the integration costs," Gary Balter of Credit Suisse wrote in a note to clients that cites OfficeMax, Office Depot and Staples.

"The synergies will not include higher pricing given the Internet and other pressures, but fewer store locations fighting for sales, lower distribution costs for OMX and ODP, and potential share gains by Staples during the near-term disruption of integrating two disparate systems."

Already, Office Depot is in the process of implementing a three-year plan to cut costs that the company projects will add $300 million to its earnings before interest and taxes. Those expense reductions, and between $480 million to $580 million in merger-related savings, could mean that the merged company could see over $700 million in synergies, according to calculations by Daniel Binder of Jefferies.

"With Office Depot and OfficeMax having closed numerous stores in recent years, plus a potential $1 million to $2 million cash cost to close additional stores, we suspect a lot of the future closing opportunities will come as leases come up for renewal," Binder wrote in a note to clients that forecasts roughly 52% of Office Depot's stores overlap with those of OfficeMax.

Were the merged entity to close or discontinue those stores, Binder calculates Staples could gain up to 30% of those sales, or up to $60 million in revenue annually.

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