ODP Corp - Quarter Report: 2014 June (Form 10-Q)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

FORM 10-Q

(Mark One)

For the quarterly period ended June 28, 2014

or

For the transition period from              to             

Commission file number 1-10948

Office Depot, Inc.

(Exact name of registrant as specified in its charter)

(561) 438-4800

(Registrant’s telephone number, including area code)

(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.:

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No   x

The number of shares outstanding of the registrant’s common stock, as of the latest practicable date: At June 28, 2014, there were 537,575,688 outstanding shares of Office Depot, Inc. Common Stock, $0.01 par value.

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TABLE OF CONTENTS

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PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

OFFICE DEPOT, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In millions, except per share amounts)

(Unaudited)

This report should be read in conjunction with the Notes to Condensed Consolidated Financial Statements herein and the Notes to Consolidated Financial Statements in the Office Depot, Inc. Form 10-K filed February 25, 2014 (the “2013 Form 10-K”).

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OFFICE DEPOT, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

(In millions)

(Unaudited)

This report should be read in conjunction with the Notes to Condensed Consolidated Financial Statements herein and the Notes to Consolidated Financial Statements in the 2013 Form 10-K.

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OFFICE DEPOT, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(In millions, except share and per share amounts)

(Unaudited)

This report should be read in conjunction with the Notes to Condensed Consolidated Financial Statements herein and the Notes to Consolidated Financial Statements in the 2013 Form 10-K.

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OFFICE DEPOT, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In millions)

(Unaudited)

This report should be read in conjunction with the Notes to Condensed Consolidated Financial Statements herein and the Notes to Consolidated Financial Statements in the 2013 Form 10-K.

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation: Office Depot, Inc., including consolidated subsidiaries (“Office Depot” or the “Company”), is a global supplier of office products and services. On November 5, 2013, the Company merged with OfficeMax Incorporated (“OfficeMax”); refer to Note 2 for additional discussion of this merger (the “Merger”). OfficeMax’s results are included in the Condensed Consolidated Statements of Operations and Cash Flows for the 2014 periods presented, affecting comparability of 2014 and 2013 amounts. The Company’s common stock is traded on the New York Stock Exchange (“NYSE”) under the ticker symbol ODP. The merged Company currently operates under the Office Depot ^® and OfficeMax ^® brands and utilizes other proprietary company and product brand names. As of June 28, 2014, the Company sold to customers throughout North America, Europe, and Asia/Pacific through three reportable segments (or “Divisions”): North American Retail Division, North American Business Solutions Division and International Division. Refer to Note 12 for further Division information.

The Condensed Consolidated Financial Statements as of June 28, 2014 and for the 13-week and 26-week periods ended June 28, 2014 (also referred to as “the second quarter of 2014” and “the first half of 2014”) and June 29, 2013 (also referred to as “the second quarter of 2013” and “the first half of 2013”) are unaudited. However, in our opinion, these financial statements reflect all adjustments of a normal recurring nature necessary to provide a fair presentation of the Company’s financial position, results of operations and cash flows for the periods presented.

The Company has prepared the quarterly consolidated financial statements included herein pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”). Some information and note disclosures, which would normally be included in comprehensive annual financial statements prepared in accordance with accounting principles generally accepted in the United States, have been condensed or omitted pursuant to those SEC rules and regulations. For a better understanding of the Company and its Condensed Consolidated Financial Statements, we recommend reading these Condensed Consolidated Financial Statements in conjunction with the audited financial statements which are included in the Annual Report on Form 10-K for the fiscal year ended December 28, 2013, filed on February 25, 2014, with the SEC. These interim results are not necessarily indicative of the results that should be expected for the full year.

During the fourth quarter of 2013, the Company modified its measure of business segment operating results for management reporting purposes to exclude from the determination of Division operating income (loss) the impacts of asset impairments, restructuring-related activities, and certain other charges and credits. These activities now are being managed at the Corporate level. Refer to Note 12 for additional Division information. Also, to be consistent with how the business is managed, starting in the fourth quarter of 2013, the Company began presenting a single financial statement line item titled Selling, general and administrative expenses which includes the amounts that were previously reported in Operating and selling expenses and General and administrative expenses. Neither the change in Division operating income (loss) nor Statement of Operations presentation had an impact on Consolidated Operating income (loss), Net income (loss), or Earnings (loss) per share for the periods presented.

Due to the pending sale of Grupo OfficeMax S. de R.L. de C.V. and related entities (together, “Grupo OfficeMax”), assets and liabilities of the joint venture are presented as held for sale. Amounts that relate to December 28, 2013 in the Condensed Consolidated Balance Sheet and Condensed Consolidated Statement of Cash Flows have been reclassified to conform to the current period presentation. The integration of the business into the International Division was suspended during the second quarter of 2014 and the joint venture results have been removed from the International Division and reported as Other to align with how this information is presented for management reporting. Additional information on the pending sale is provided in Note 2.

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited) – (Continued)

Cash Management: The cash management process generally utilizes zero balance accounts which provide for the settlement of the related disbursement and cash concentration accounts on a daily basis. Trade accounts payable and Accrued expenses and other current liabilities as of June 28, 2014 and December 28, 2013 included $92 million and $118 million, respectively, of amounts not yet presented for payment drawn in excess of disbursement account book balances, after considering offset provisions.

At June 28, 2014, cash and cash equivalents held outside the United States amounted to $324 million.

Receivables under Factoring Agreement: The Company sells selected accounts receivables on a non-recourse basis to an unrelated financial institution under a factoring agreement in France. The Company accounts for this transaction as a sale of receivables, removes receivables sold from its financial statements, and records cash proceeds when received by the Company as cash provided by operating activities in the Statement of Cash Flows. The financial institution makes available 80% of the face value of the receivables to the Company and retains the remaining 20% as a guarantee until the receipt of the proceeds associated with the factored invoices.

In the second quarter and first half of 2014, the Company withdrew $124 million and $251 million, respectively, from amounts available under the factoring arrangement. Receivables sold for which the Company did not obtain cash directly from the financial institution are included in Receivables and amount to $13 million and $10 million as of June 28, 2014 and December 28, 2013, respectively. Retention guarantee amounts of $12 million and $13 million are included in Prepaid expenses and other current assets as of June 28, 2014 and December 28, 2013, respectively.

New Accounting Standards: In April 2014, the Financial Accounting Standards Board (the “FASB”) issued an accounting standards update that changes the criteria for reporting discontinued operations. Under the new guidance, only disposals representing a strategic shift in operations that has (or will have) a major effect on an entity’s operations and financial results will be presented as discontinued operations. The standard also removed continuing cash flows and significant continuing involvement as considerations in determining if a disposal should be presented as discontinued operations. The standard should be applied prospectively and is effective for public entities beginning in annual periods after December 15, 2014, with early adoption allowed. The Company elected to adopt this standard as of the beginning of the second quarter of 2014. The early adoption had no significant impact in the Company’s Condensed Consolidated Financial Statements.

In May 2014, the FASB issued an accounting standards update that will supersede most current revenue recognition guidance and modify the accounting for certain costs associated with revenue generation. The core principle of this guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The guidance provides a number of steps to apply to achieve that principle. The standard is effective for the Company’s first quarter of 2017. Early adoption is not permitted. Implementation may be either through retrospective application to each period from the first quarter of 2015 or with a cumulative effect adjustment upon adoption in 2017. Additional disclosures will also be required under the new standard. The Company is in the early stages of assessing what impacts this new standard will have on its consolidated financial statements.

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited) – (Continued)

NOTE 2. MERGER

On November 5, 2013, the Company completed its merger with OfficeMax. Each former share of OfficeMax common stock issued and outstanding immediately prior to the Merger was converted to 2.69 shares of Office Depot common stock. The Company issued approximately 240 million shares of Office Depot, Inc. common stock to former holders of OfficeMax common stock, representing approximately 45% of the approximately 530 million total shares of Company common stock outstanding on the Merger date. Additionally, OfficeMax employee based stock options and restricted stock were converted into mirror awards exercisable or earned in Office Depot, Inc. common stock. The value of these awards was apportioned between total Merger consideration and unearned compensation to be recognized over the remaining original vesting periods of the awards. Office Depot was determined to be the acquirer for accounting purposes.

The Merger was an all-stock transaction, valued at the closing price of Office Depot, Inc. common stock on the Merger date. Approximately $1.4 billion of consideration was allocated on a preliminary basis, pending completion of the valuation of the fair value of assets acquired and liabilities assumed. Goodwill has not yet been allocated to the reporting units. The valuation will be finalized during the measurement period which will not exceed one year from the Merger date.

As the Company has worked to complete the purchase price allocation, certain preliminary values have been adjusted since the Merger date. Initial amounts allocated to certain international property and equipment accounts decreased by $16 million, customer intangible accounts increased by $1 million and tax account adjustments were $1 million. Additionally, $24 million of goodwill has been allocated to the Grupo OfficeMax business in connection with the pending sale. These adjustments and partial allocation resulted in a net $8 million reduction in total goodwill through the end of the second quarter of 2014.

Under the guidance on accounting for business combinations, merger and integration costs are not included as components of consideration transferred but are accounted for as expenses in the period in which the costs are incurred. Transaction-related expenses are included in the Merger, restructuring, and other operating expenses, net line in the Condensed Consolidated Statements of Operations. Refer to Note 3 for additional information about the expenses incurred during 2014.

Additionally, in accordance with certain Merger-related agreements, in both July and November 2013, the Company redeemed 50% of the redeemable preferred stock outstanding. Redeemable preferred stock dividends included in the Condensed Consolidated Statement of Operations and Condensed Consolidated Statement of Cash Flows for the second quarter and first half of 2013 relate to contractual dividends incurred prior to the redemptions.

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited) – (Continued)

Consolidated joint venture held for sale

In June 2014, the Company entered into an agreement with its joint venture partner to sell its 51% capital stock interest in Grupo OfficeMax, the former OfficeMax business in Mexico. The agreement has been approved by the appropriate Mexican regulatory authorities and is expected to be completed during the third quarter of 2014. This disposition will not have a major effect on the Company’s operations and financial results, therefore, the transaction does not meet the discontinued operations criteria under the recently issued and early adopted accounting standards disclosed in Note 1. The sale price is considered to be the most appropriate indication of the joint venture fair value and no significant gain or loss is expected on disposition. Anticipated cost to sell have been accrued. The significant line items included in the Condensed Consolidated Statements of Operations are as follows:

The transaction was not contemplated at the Merger date, but because of the subsequent decisions to sell, the joint venture’s assets and liabilities are presented in the Condensed Consolidated Balance Sheet at June 28, 2014 and December 28, 2013, as Assets of consolidated joint venture held for sale and Liabilities of consolidated joint venture held for sale, respectively, and include the following:

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited) – (Continued)

Through the earlier of completion of the transaction or December 31, 2014, the Company’s joint venture partner waived their rights, if any, to measurement or exercise of provisions in the current joint venture agreement that could require the Company to purchase their ownership interests.

NOTE 3. MERGER, RESTRUCTURING, AND OTHER ACCRUALS

In recent years, the Company has taken restructuring actions to adapt to changing and competitive conditions. These actions include closing facilities, consolidating functional activities, disposing of businesses and assets, and taking actions to improve process efficiencies. Additionally, in 2013, the Merger was approved and completed and integration activities began. In connection with the Merger, the Company assumed restructuring liabilities previously recorded by OfficeMax. Refer to Note 2 for additional information on the Merger.

Merger, restructuring, and other operating expenses, net

Starting in the fourth quarter of 2013, the Company began presenting Merger, restructuring and other operating expenses, net on a separate line in the Consolidated Statements of Operations to identify these activities apart from the expenses incurred to sell to and service its customers. Prior period presentation has been updated accordingly. As disclosed in Note 1, these expenses are not included in the determination of Division operating income (loss). The table below summarizes Merger, restructuring and other operating expenses, net.

Employee related expenses are termination benefits and certain incentives to relocate, retain and motivate employees. In the second quarter of 2014, the Company’s real estate strategy was sufficiently developed to provide a basis for estimating termination benefits for certain retail and supply chain closures that are expected to extend through 2016. Such benefits are being accrued through the anticipated employee full eligibility date. Because the specific identity of retail locations to be closed is subject to change as the real estate strategy evolves, the Company applied a probability-weighted method to estimate the store closure severance accrual. The calculation considers factors such as the expected timing of store closures, terms of existing severance plans, employee turnover and attrition. As the integration evolves and additional decisions are made, more current information will be available and assumptions used in estimating the termination benefits accrual may change. Additionally, closure costs for facilities with remaining lease commitments will be recognized when the facilities are no longer in use.

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited) – (Continued)

Transaction and integration activities are primarily legal, accounting, and integration-related and are being recognized as incurred.

Restructuring expenses primarily relate to activities in Europe, such as severance and other costs for organizational changes.

Refer to Note 10 for further discussion on Merger-related asset impairments.

Merger and restructuring accruals

The activity in the merger and restructuring accruals in the first half of 2014 is presented in the table below.

The charges incurred of $140 million in the table above are included in the $204 million Merger, restructuring and other expenses, net recognized in the first half of 2014. Transaction and integration expenses of $59 million and employees non-cash equity compensation expenses of $5 million, which are also included in Merger, restructuring and other expenses, net, are not included in the accrual activity in the table above. Transaction and integration expenses are being recognized as incurred.

Certain incentives to relocate, retain and motivate employees associated to the Merger activities are presented as other costs in the table and amount to $38 million.

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited) – (Continued)

NOTE 4. INVESTMENTS

Unconsolidated Joint Venture

From 1994 through the third quarter of 2013, the Company participated in a joint venture that sells office products and services in Mexico and Central and South America and accounted for this investment under the equity method. In the third quarter of 2013, the Company sold its 50% investment in Office Depot de Mexico, S.A. de C.V. (“Office Depot de Mexico”) to Grupo Gigante, S.A.B. de C.V. (“Grupo Gigante”), the joint venture partner. For periods prior to the sale, the Company’s proportionate share of Office Depot de Mexico’s net income was presented in Other income (expense), net in the Condensed Consolidated Statements of Operations and totaled $7 million and $14 million in the second quarter and first half of 2013, respectively.

Boise Cascade Holdings, LLC and Boise Cascade Company Common Stock

The Company had an investment of approximately 20% of the voting equity securities (“Common Units”) of Boise Cascade Holdings, L.L.C. (“Boise Cascade Holdings”), a building products company that originated in connection with the OfficeMax sale of its paper, forest products and timberland assets in 2004. At December 28, 2013, Boise Cascade Holdings owned common stock of Boise Cascade Company (“Boise Cascade”), a publicly traded entity, which gave the Company the indirect ownership interest of approximately 4% of the shares of Boise Cascade. The investment in Boise Cascade Holdings was accounted for under the cost method because the Company did not have the ability to significantly influence the entity’s operating and financial policies. At December 28, 2013, the investment of $46 million was included in Other assets in the Condensed Consolidated Balance Sheet.

During the first quarter of 2014, Boise Cascade Holdings distributed to its shareholders all of the Boise Cascade common stock it held. The Company received 1.6 million shares in this distribution, which the Company fully disposed of in open market transactions through June 28, 2014 for total cash proceeds of $43 million. The related loss on disposal is included in Other income (expense), net in the Condensed Consolidated Statement of Operations.

NOTE 5. DEBT

Amended Credit Agreement

Based on the June borrowing base certificate, at June 28, 2014, the Company had approximately $1.1 billion of available credit under the asset-based, multi-currency revolving credit facility (the “Facility”) provided by the Amended and Restated Credit Agreement entered into in May 2011, as amended effective February 2012, March 2013, and November 2013. Letters of credit outstanding under the Facility totaled $97 million. There were no borrowings under the Facility in the first half of 2014.

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited) – (Continued)

NOTE 6. INCOME TAXES

For the first half of 2014, the Company recognized income tax expense on a pretax loss because, as in prior periods, deferred tax benefits were not recognized on pretax losses in certain tax jurisdictions with valuation allowances, while income tax expense was recognized in tax jurisdictions with pretax earnings. Accordingly, interim income tax reporting is likely to result in significant variability of the effective tax rate throughout the course of the year. Changes in pretax income projections and the mix of income across jurisdictions could also impact the effective tax rate each quarter.

The Company has significant deferred tax assets in the U.S. and in foreign jurisdictions against which valuation allowances have been established to reduce such deferred tax assets to the amount that is more likely than not to be realized. During the second quarter of 2014, the Company released valuation allowance in certain foreign jurisdictions due to the existence of sufficient positive evidence, which resulted in the recognition of a $4 million income tax benefit. The Company will continue to assess the realizability of its deferred tax assets.

The Company files a U.S. federal income tax return and other income tax returns in various states and foreign jurisdictions. During the first quarter of 2014, the Company received notification that the Internal Revenue Service (“IRS”) had completed its examination of the legacy Office Depot 2012 U.S. federal income tax return with no changes. The legacy OfficeMax U.S. consolidated group is no longer subject to U.S. federal income tax examinations for years prior to 2010, and the IRS examination of the 2012 year is in process. The U.S. federal income tax return for 2013 is under concurrent year review. With few exceptions, the legacy Office Depot and legacy OfficeMax consolidated groups are no longer subject to U.S. state and local income tax examinations for years before 2010 and 2006, respectively. Generally, the Company is subject to routine examination for years 2006 and forward in its international tax jurisdictions.

Due to settlements with certain tax authorities during the second quarter of 2014, the Company’s balance of unrecognized tax benefits decreased by $3 million, which resulted in an income tax benefit of the same amount. The Company also estimates its unrecognized tax benefits to increase by $11 million in 2014 for current year positions in certain tax jurisdictions, only $2 million of which is estimated to increase income tax expense for the year due to valuation allowances. After application of interim period tax accounting, the Company’s unrecognized tax benefits increased by $4 million in the second quarter of 2014, $1 million of which increased income tax expense. The remainder will be recognized in the second half of 2014. Additionally, the Company anticipates that it is reasonably possible that new issues will be raised or resolved by tax authorities that may require changes to the balance of unrecognized tax benefits; however, an estimate of such changes cannot be reasonably made.

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited) – (Continued)

NOTE 7. STOCKHOLDERS’ EQUITY

The following table reflects the changes in stockholders’ equity attributable to both Office Depot, Inc. and noncontrolling subsidiary interests.

Because of valuation allowances in U.S. and several international taxing jurisdictions, items other than deferred pension amounts generally have little or no tax impact. The component balances are net of immaterial tax impacts, where applicable.

Accumulated other comprehensive income (loss) activity, net of tax, where applicable, is provided in the following table:

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited) – (Continued)

NOTE 8. EARNINGS PER SHARE

The following table represents the calculation of net earnings (loss) per common share (“EPS”):

The weighted average share calculations for the second quarter and first half 2014 are impacted by the shares issued in connection with the Merger. Potentially dilutive stock options and restricted stock of 7 million and 8 million shares were excluded from the second quarter and first half 2014 diluted loss per share calculation, respectively, because of the net loss in the periods.

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited) – (Continued)

Awards of options and nonvested shares representing approximately 10 million and 11 million additional shares of common stock were outstanding for the second quarter and first half of 2014, respectively, and 9 million for both the second quarter and first half of 2013, but were not included in the computation of diluted weighted-average shares outstanding because their effect would have been antidilutive. For the periods presented, no tax benefits have been assumed in the weighted average share calculation in jurisdictions with valuation allowances.

Shares of the redeemable preferred stock were fully redeemed in 2013. In periods in which the redeemable preferred stocks were outstanding, basic EPS was computed after consideration of preferred stock dividends. The redeemable preferred stock had equal dividend participation rights with common stock that required application of the two-class method for computing earnings per share. In periods of sufficient earnings, this method assumes an allocation of undistributed earnings to both participating stock classes. The two-class method was not applicable to the second quarter and first half 2013 because it would have been antidilutive. The second quarter and first half 2013 diluted share amount is provided for informational purposes, as the loss for the period causes basic earnings per share to be the most dilutive. The preferred stockholders were not required to fund losses. Refer to Note 2 for further redemption details.

NOTE 9. EMPLOYEE BENEFIT PLANS

Pension and Other Postretirement Benefit Plans – North America

The components of net periodic pension (benefit) cost for the Company’s North American pension are as follows:

In the first half of 2014, $38 million of cash contributions were made to the North American pension and other postretirement plans. Of the $12 million of additional cash contributions expected to be made by the Company to the North American pension and other postretirement plans in 2014, $4 million was contributed in July 2014.

Pension Plan – Europe

The components of net periodic pension benefit for the Company’s foreign pension plan are as follows:

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited) – (Continued)

The plan is in a net asset position. There are no funding requirements while the plan has an asset surplus.

Net periodic pension benefits for the North American and European pension and other postretirement benefit plans are recorded in Selling, general and administrative expenses in the Condensed Consolidated Statement of Operations.

NOTE 10. DERIVATIVE INSTRUMENTS AND FAIR VALUE MEASUREMENTS

Derivative Instruments and Hedging Activities

As a global supplier of office products and services the Company is exposed to risks associated with changes in foreign currency exchange rates, fuel and other commodity prices and interest rates. Depending on the exposure, settlement timeframe and other factors, the Company may enter into derivative transactions to mitigate those risks. The Company may designate and account for such qualifying arrangements as hedges. Historically, the Company has not entered into transactions to hedge its net investment in foreign operations but may do so in future periods.

Financial instruments authorized under the Company’s established risk management policy include spot trades, swaps, options, caps, collars, forwards and futures. Use of derivative financial instruments for speculative purposes is expressly prohibited. The fair value and activity of derivative financial instruments were not material as of June 28, 2014 and December 28, 2013 and for the periods ended June 28, 2014 and June 29, 2013.

Financial Instruments

The Company measures fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. In developing its fair value estimates, the Company uses the following hierarchy:

The fair values of cash and cash equivalents, receivables, accounts payable and accrued expenses and other current liabilities approximate their carrying values because of their short-term nature.

The fair values of foreign currency contracts and fuel contracts are the amounts receivable or payable to terminate the agreements at the reporting date, taking into account current exchange rates and commodity prices. The values are based on market-based inputs or unobservable inputs that are corroborated by market data (Level 2 measure). As of June 28, 2014, the amounts receivable or payable under foreign currency and fuel contracts were not significant.

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited) – (Continued)

The following table presents information about financial instruments at the balance sheet dates indicated.

The following methods and assumptions were used to estimate the fair value of each class of financial instruments:

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited) – (Continued)

Fair Value Estimates Used in Impairment Analyses

Because of declining sales in recent periods, the Company has conducted a detailed quarterly store impairment analysis. The analysis uses input from retail store operations and the Company’s accounting and finance personnel that organizationally report to the Chief Financial Officer. These projections are based on management’s estimates of store-level sales, gross margins, direct expenses, exercise of future lease renewal options, where applicable, and resulting cash flows and, by their nature, include judgments about how current initiatives will impact future performance. If the anticipated cash flows of a store cannot support the carrying value of its assets, the assets are impaired and written down to estimated fair value using Level 3 inputs.

The Company recognized store asset impairment charges of $10 million and $19 million, in the second quarter and first half of 2014, respectively, and $4 million and $10 million, in the second quarter and first half of 2013, respectively.

As part of the integration of the Office Depot and OfficeMax stores, the Company is implementing a new real estate strategy. This strategy anticipates closing at least 400 stores through 2016. Because the specific identity of retail locations to be closed over this timeframe is subject to change as the real estate strategy evolves, the Company applied a probability-weighted method to estimate store closures. The financial analysis used in developing this real estate strategy considered projected sales transfer to stores remaining open, the impact of fixed costs on the remaining stores, projected store closing costs, expected impacts on other sales channels and an overall market strategy. Based on the identification of locations likely to close through the probability-weighted real estate strategy, the second quarter 2014 store impairment analysis considered the projected operating cash flows consistent with these anticipated closing dates. The actual stores to close may be more, fewer or different from the current projections as market and competitive conditions change. However, at the end of the second quarter of 2014, the impairment analysis reflects the Company’s best estimate of future performance, based on the current business model.

The second quarter and first half of 2014 impairment charges were based on a discounted cash flow analyses of the retail locations that assumed a sales decline next year similar to recent experience, with negative but improving trends for later years. Gross margin and operating costs have been assumed to be consistent with recent actual results and planned activities. For the second quarter 2014 impairment analysis, 36 locations were reduced to estimated fair value of $4 million based on their projected cash flows, discounted at 13% and 95 locations were reduced to estimated salvage value of $2 million. A 100 basis point decrease in next year sales used in these estimates would have increased impairment by approximately $1 million. Independent of the sensitivity on sales assumptions, a 50 basis point decrease in next year gross margin would have increased the impairment by approximately $2 million. The interrelationship of having both of those inputs change as indicated would have resulted in impairment of approximately equal to the sum of the two individual inputs.

Other asset impairment charges for the second quarter of 2014 include $12 million following a decision to convert certain websites to a common platform. The impairment amount was determined based on a cash flow analysis over the remaining use period. The first half of 2014 also includes a $28 million charge related to the abandonment of a software implementation project in Europe and $13 million for the write off of capitalized software following certain information technology platform decisions related to the Merger.

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited) – (Continued)

NOTE 11. COMMITMENTS AND CONTINGENCIES

Legal Matters

The Company is involved in litigation, including class actions, arising in the ordinary course of business. The Company is also subject to lawsuits, investigations, audits and reviews by government authorities and regulatory agencies. While claims in these matters may at times involve substantial monetary demands, except as otherwise disclosed herein the Company does not believe that contingent liabilities related to any of these matters will have a material adverse effect on the Company’s financial position. However, in the future we could incur judgments, enter into settlements or revise our expectations regarding the outcome of these matters, and such developments could have a material adverse effect on our results of operations and cash flows.

In addition to the foregoing in 2009, State of California et al., ex rel. David Sherwin v. Office Depot was filed in Superior Court for the State of California, Los Angeles County, and unsealed on October 16, 2012. On January 29, 2014, the case, which had been removed to the United States District Court for the Central District of California, was remanded back to the Superior Court. The lawsuit asserts claims, including claims under the California False Claims Act, based on allegations regarding certain pricing practices under now expired agreements that were in place between 2001 and January 1, 2011, pursuant to which governmental agencies purchased office supplies from us. The Plaintiffs seek monetary damages and other relief and, to the extent that liability is found under the California False Claims Act, the Company could also be subject to the trebling of damages and statutory penalties. On June 25, 2014, the Company participated in a non-binding, voluntary mediation in which the Company negotiated a potential settlement to resolve the matter. During the second quarter of 2014, the Company recorded an $80 million incremental increase to the legal accrual which included the potential settlement of $68 million, as well as attorneys’ fees and other related legal matters. The parties continue to work to resolve the matter. Any final settlement would require court approval and there can be no assurance that the settlement will be reached at all or on the terms proposed.

In September 2012, Heitzenrater v. OfficeMax North America, Inc., et al. was filed in the United States District Court for the Western District of New York as a putative class action alleging violations of the Fair Labor Standards Act and New York Labor Law. The complaint alleges that OfficeMax misclassified its assistant store managers as exempt employees, willfully failed to pay overtime compensation, and seeks unpaid wages, punitive damages, and penalties for record keeping violations. The Company believes that adequate provisions have been made for probable losses and such amounts are not material. However, in light of the early stage of the case and the inherent uncertainty of litigation, the Company is unable to reasonably determine the full effect of the potential liability in the matter. OfficeMax intends to vigorously defend itself in this lawsuit. Further, Kyle Rivet v. Office Depot, Inc., is pending in the United States District Court for the District of New Jersey. The complaint alleges that Office Depot’s use of the fluctuating workweek (FWW) method of pay was unlawful because Office Depot failed to pay a fixed weekly salary and failed to provide its assistant managers with a clear and mutual understanding that they would receive a fixed weekly salary for all hours worked. In both cases, the plaintiffs seek unpaid overtime, punitive damages, and attorneys’ fees. The Company believes in this case as well that adequate provisions have been made for probable losses and such amounts are not material. However, in light of the early stage of the case and the inherent uncertainty of litigation, the Company is unable to reasonably determine the full effect of the potential liability in these matters. Office Depot intends to vigorously defend itself in these lawsuits.

OfficeMax is named a defendant in a number of lawsuits, claims, and proceedings arising out of the operation of certain paper and forest products assets prior to those assets being sold in 2004, for which OfficeMax agreed to retain responsibility. Also, as part of that sale, OfficeMax agreed to retain responsibility for all pending or threatened proceedings and future proceedings alleging asbestos-related injuries arising out of the operation of the paper and forest products assets prior to the closing of the sale. The Company does not believe any of these OfficeMax retained proceedings are material to the Company’s business.

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited) – (Continued)

NOTE 12. DIVISION INFORMATION

As a result of the Merger, the Company is in a period of transition as it relates to organizational alignment and management reporting which could impact segment reporting in future periods. At June 28, 2014, the Company had the following three reportable segments: North American Retail Division, North American Business Solutions Division, and International Division. Following the date of the Merger, the former OfficeMax U.S. Retail business is included in the North American Retail Division. The former OfficeMax United States contract and Canadian business are included in the North American Business Solutions Division. The former OfficeMax businesses in Australia and New Zealand are included in the International Division. The former OfficeMax business in Mexico is presented as Other. Because of the pending sale, the integration of this business into the International Division was suspended during the second quarter and it is currently managed and reported independently of the Company’s other international businesses. Prior period segment information has been recast to reflect this change in the reporting structure. The office supply products and services offered across all operating segments are similar. Division operating income (loss) is determined based on the measure of performance reported internally to manage the business and for resource allocation. This measure charges to the respective Divisions those expenses considered directly or closely related to their operations and allocates support costs. Other companies may charge more or less of these items to their segments and results may not be comparable to similarly titled measures used by other entities.

During the fourth quarter of 2013, the Company modified its measure of business segment operating income for management reporting purposes to exclude from the determination of segment operating results the impact related to asset impairments, Merger and integration, restructuring and other charges and credits. Oversight of these activities starting in fourth quarter of 2013 was provided at the Corporate level. Prior period operating expenses have been recast to conform to the current period presentation for the change in measurement of Division operating results.

The following is a summary of significant accounts and balances by each of the Divisions, reconciled to consolidated totals.

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OFFICE DEPOT, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited) – (Continued)

A reconciliation of the measure of Division operating income to Consolidated loss before income taxes is as follows:

The gross amount of goodwill and the amount of accumulated impairment losses as of June 28, 2014 are provided in the following table:

Because the allocation of consideration related to the Merger is incomplete, the goodwill associated with the transaction has not yet been allocated to the reporting units and is included in Corporate above. The purchase price allocation and the allocation of goodwill on a relative fair value basis are expected to be complete within the measurement period that will not exceed one year from the transaction date. Refer to Note 2 for additional information on the goodwill associated with the Merger and measurement period adjustments.

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

RESULTS OF OPERATIONS

OVERVIEW

Office Depot, Inc., together with our subsidiaries (“Office Depot” or the “Company”), is a global supplier of office products and services to consumers and businesses of all sizes. On November 5, 2013, we merged with OfficeMax Incorporated (“OfficeMax”) (the “Merger”). We sell to customers throughout North America, Europe, and Asia/Pacific through three reportable segments (or “Divisions”): North American Retail Division, North American Business Solutions Division and International Division. The North American Retail Division includes our retail stores in the United States, including Puerto Rico and the U.S. Virgin Islands, which offer office supplies, technology products and solutions, business machines and related supplies, facilities products, and office furniture. Most stores also have a copy and print center offering printing, reproduction, mailing and shipping services. The North American Business Solutions Division sells office supply products and services in Canada and the United States, including Puerto Rico and the U.S. Virgin Islands. North American Business Solutions Division customers are served through dedicated sales forces, catalogs, telesales, and electronically through our Internet sites. Our International Division sells office products and services through direct mail catalogs, contract sales forces, Internet sites, and retail stores in Europe, and Asia/Pacific. Following the date of the OfficeMax merger (the “Merger”), (i) the former OfficeMax U.S. Retail business is included in the North American Retail Division; (ii) the former OfficeMax U.S. contract and Canadian business (“Grand & Toy”) are included in the North American Business Solutions Division; and (iii) the former OfficeMax business in Australia and New Zealand is included in the International Division. The former OfficeMax business in Mexico is presented as an Other segment. Because of the pending sale, the integration of this business into the International Division was suspended during the second quarter and it is currently managed and reported independently of the Company’s other international businesses. Prior period segment information has been recast to reflect this change in reporting structure.

During the fourth quarter of 2013, we modified the measure of business segment operating results for management reporting purposes to exclude from the determination of Division operating income (loss) the impacts of asset impairments, Merger and integration, restructuring, and certain other charges and credits. These activities now are being managed at the Corporate level. The change was intended to present these activities apart from the expenses incurred to sell to and service our customers. Refer to Note 12 of the Condensed Consolidated Financial Statements for additional segment information. Also, to be consistent with how the business is managed, starting in the fourth quarter of 2013, the Company began presenting a single financial statement line item titled Selling, general and administrative expenses which includes the amounts that were previously reported in Operating and selling expenses and General and administrative expenses. Neither the change in Division operating income (loss) nor Statement of Operations presentation had an impact on Consolidated Operating income (loss), Net income (loss), or Earnings (loss) per share for the prior periods presented.

Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is intended to provide information to assist readers in better understanding and evaluating our financial condition and results of operations. We recommend reading this MD&A in conjunction with our Condensed Consolidated Financial Statements and the Notes to those statements included in Item 1 of this Quarterly Report on Form 10-Q, as well as our 2013 Annual Report on Form 10-K, filed with the U.S. Securities and Exchange Commission (the “SEC”) on February 25, 2014 (the “2013 Form 10-K”).

This MD&A contains significant amounts of forward-looking information. Without limitation, when we use the words “believe,” “estimate,” “plan,” “expect,” “intend,” “anticipate,” “continue,” “may,” “project,” “probably,” “should,” “could,” “will” and similar expressions in this Quarterly Report on Form 10-Q, we are identifying forward-looking statements (as such term is defined in the Private Securities Litigation Reform Act of 1995). Our discussion of Risk Factors, found in Item 1A of our 2013 Form 10-K and in Item 1A of this Quarterly Report, and Forward-Looking Statements, found in Item 1A of our 2013 Form 10-K, apply to these forward-looking statements.

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A summary of certain factors impacting results for the 13-week and 26-week periods ended June 28, 2014 (also referred to as “the second quarter of 2014” and “the first half of 2014”) and June 29, 2013 (also referred to as “the second quarter of 2013” and “the first half of 2013”) is provided below. Additional discussion of the 2014 first quarter and first half results is provided in the narrative that follows this overview.

Merger

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Other Significant Factors Impacting Total Company Results and Liquidity

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OPERATING RESULTS

Discussion of Corporate and Other items, including material charges and credits and changes in interest and income taxes, follows our review of segment results.

NORTH AMERICAN RETAIL DIVISION

Sales in our North American Retail Division increased 55% in the second quarter of 2014 compared to sales in the same period last year, primarily as a result of the addition of OfficeMax 2014 sales of $563 million. Excluding the OfficeMax sales, 2014 sales would have decreased 5%.

Comparable store sales in 2014 from the 1,059 stores under the Office Depot banner that were open for more than one year decreased 2%. For the Office Depot banner, average order value remained flat and transactions declined, reflecting lower customer traffic. Sales of ink and toner, portable computers, and computer related products declined, while sales of supplies and in Office Depot Copy and Print Depot increased.

Our comparable store sales relate to stores that have been open for at least one year. Stores are removed from the comparable sales calculation during remodeling and if significantly downsized. As the Company refines its real estate strategy and the integration of Office Depot and OfficeMax stores progresses, comparable store sales may be impacted as customers migrate from closed to nearby stores which remain open.

In addition to comparable sales trends discussed above, total sales decline was impacted by store closures. The Company believes that some shoppers continue to purchase in Company stores in proximity to closed locations and online or through catalogs. Online and catalog sales are reported in the North American Business Solutions Division. While store closures result in lower sales in the North American Retail Division, they are typically lower performing stores and future Division operating income may benefit.

The North American Retail Division reported an operating loss of $6 million in the second quarter of 2014, compared to a loss of $20 million in the same period of prior year. The Division’s operating loss improvement in the second quarter of 2014 reflects higher gross profit margin from the addition of the OfficeMax banner and improvements in the Office Depot banner, as well as benefits associated to prior restructuring activities under the Office Depot banner and synergies from combining the two companies. As the integration of the businesses continues, including the phasing in of certain common systems, the identity of revenues and expenses will not be as clear at the individual banner level and operating trends will be addressed at the Division level for the remainder of 2014.

In the first half of 2014, sales in our North American Retail Division increased 57% compared to sales in the same period last year, primarily as a result of the addition of OfficeMax 2014 sales of $1,272 million. Excluding the OfficeMax sales, 2014 sales would have decreased 4%.

During the second quarter of 2014, the North American Retail Division opened 2 stores and closed 32, ending the period with a store count of 1,870.

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Based on the current real estate strategy, at least 400 stores in North America are expected to be closed over the next three years, with approximately 165 stores closing in 2014, including those closed through the end of the second quarter. The remaining 2014 closures are expected to be completed in the fourth quarter. The more than 400 store closures are expected to result in at least $100 million in annual run-rate synergies and will begin to be accretive in 2015. In addition, for all store closures in 2014, we expect to accrue approximately $40 million for any remaining lease obligations, subject to mitigation through negotiations with landlords and in some cases subleasing. The real estate portfolio optimization plan will be adjusted in future periods as market and competitive conditions change.

Implementation of this strategy is expected to result in additional charges that will be reflected in Corporate reporting, and not included in the determination of Division income in future periods.

NORTH AMERICAN BUSINESS SOLUTIONS DIVISION

Sales in our North American Business Solutions Division increased 91% in the second quarter of 2014 compared to sales in the same period in the prior year, primarily as a result of the addition of OfficeMax 2014 sales of $699 million. Excluding the OfficeMax sales, second quarter 2014 sales would have increased 1%. As the integration of the two companies evolves, the delineation of the contribution from the separate companies is becoming less clear.

Sales under the Office Depot banner in the second quarter of 2014 compared to the same period in 2013 increased in the contract and direct channels. The increase in the contract channel includes benefit from the integration as sales are recorded in the combined entity’s systems and presented under the Office Depot banner. Online sales through the direct channel increased during the second quarter of 2014, reflecting efforts to enhance the Internet shopping offering and experience. The increased online sales were partially offset by reduced call center sales. We anticipate this shift in customer shopping preference will continue. On a product category basis under the Office Depot banner, sales increased across all categories.

Division operating income for the second quarter of 2014 was $59 million, compared to $31 million in the same period of the prior year. Division operating income as a percentage of sales in the second quarter of 2014 remained consistent with the percentage in the same period in 2013. Gross profit margin decreased reflecting in part the impact of adding OfficeMax contract channel customers with a higher mix of lower margin accounts, as well as the impact of the Grand & Toy operations that experienced a decline in gross margin rate in 2014. The Company will focus on improving the overall mix of customers and offering margin enhancing products and services to align more with the Office Depot contract channel customers. The gross profit margin decrease was offset by lower advertising expense as a percentage of sales across the channels compared to the prior year. This benefit reflects efficiencies of combining the companies. Division operating income for the second quarter of 2014 includes the positive contribution from the Merger.

In the first half of 2014, sales in our North American Business Solutions Division increased 90% compared to sales in the same period in the prior year, primarily as a result of the addition of OfficeMax 2014 sales of $1,442 million. Excluding the OfficeMax sales, first half 2014 sales would been consistent with the first half of 2013.

In 2014, the Company closed the 19 Grand & Toy stores in Canada that were added as part of the Merger. Because this decision was after the Merger date, the fair value of assets for these locations recognized in purchase accounting has been written down to the amount recoverable through operations. That impairment charge has been reflected in the Asset impairments line in the Condensed Consolidated Statement of Operations and as a Corporate charge not included in determination of Division operating income.

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INTERNATIONAL DIVISION

Sales in our International Division in U.S. dollars increased 19% in the second quarter of 2014 and 21% in the first half, compared to sales in the same period in the prior year. The increases primarily result from the addition of OfficeMax sales of $131 million and $293 million for the second quarter and first half of 2014, respectively. Excluding the OfficeMax sales, second quarter and first half of 2014 sales compared to the same period last year would have increased 1% in U.S. dollars in both periods. On a constant currency basis, sales decreased 5% and 3% for the second quarter and first half of 2014, respectively. The Easter holiday timing benefit experienced in the first quarter of 2014 had the opposite impact in the second quarter comparison to last year. On a working day constant currency basis, sales under the Office Depot banner in the contract and direct channels decreased in both the second quarter and first half of 2014. The contract channel sales decline reflects competitive market pressures, the loss of certain contracts and discontinuation of low margin business. The sales decline in the direct channel reflects the continued decline in catalog and call center sales, partially offset by online sales increases. The Company continues to focus on improving the rate of decline in the direct channel.

Division operating loss totaled $2 million in the second quarter of 2014, compared to a loss of $5 million in the same period of 2013. The improvement in the second quarter of 2014 compared to 2013 reflects benefits from exiting unprofitable contracts, as well as certain product cost and sales mix benefits. Operating expenses as a percentage of sales decreased across the Division, reflecting lower advertising expenses and benefits from current and prior period restructuring activities. The Division anticipates additional restructuring activities to align the organization from a geographic-focus to a channel-focus, though decisions on these activities have not been finalized. Costs associated with restructuring activities are reported at the Corporate level and discussed in the “Restructuring and other operating expenses, net” section below.

The factors discussed impacting the second quarter of 2014 Division operating income (loss) are also reflective of those impacting the first half, except that the acquired business in Asia/Pacific had a higher contribution in the first quarter than in the second quarter of 2014, reflecting seasonality, customer turnover and competitive pressures, partially offset by certain gross margin rate improvements.

For U.S. reporting, the International Division’s sales are translated into U.S. dollars at average exchange rates experienced during the period. The Division’s reported sales were positively impacted by $38 million and $68 million from changes in foreign currency exchange rates in the second quarter and first half of 2014, respectively. Internally, we analyze our international operations in terms of local currency performance to allow focus on operating trends and results.

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OTHER

With the Merger, the Company acquired the OfficeMax joint venture business operating in Mexico, Grupo OfficeMax. During the first quarter of 2014, we reached an agreement in principle to sell that business to our joint venture partner and entered into an agreement in June 2014. The agreement has been approved by the appropriate regulatory authorities in Mexico and the sale is expected to be completed during the third quarter of 2014. The sale price is considered to be the most appropriate indication of the joint venture fair value and no significant gain or loss is expected on disposition. Anticipated cost to sell have been accrued. Any cumulative translation account balances will be released following the sale. Because of the pending sale, the integration of this business into the International Division was suspended during the second quarter and it is currently managed and reported independently of the Company’s other international businesses. Prior period segment information has been recast to reflect this change in the reporting structure.

Since the Company controls the joint venture, the total Grupo OfficeMax results are included in the Condensed Consolidated Statement of Operations, with an apportionment of the period results to the noncontrolling interest based on their ownership percentage. The assets and liabilities of the joint venture are presented in the Condensed Consolidated Balance Sheet at June 28, 2014 and December 28, 2013, as Assets of consolidated joint venture held for sale and Liabilities of consolidated joint venture held for sale, respectively.

The Company adopted the new accounting standard on discontinued operations at the beginning of the second quarter of 2014. While this is a disposal of all operations in Mexico, it is not considered to have a major effect on our operations or financial results and, accordingly, it is not presented as discontinued operations.

CORPORATE

The line items in our Condensed Consolidated Statements of Operations impacted by Corporate activities are presented in the table below, followed by a narrative discussion of the significant matters.

In addition to these charges and credits, certain Selling, general and administrative expenses are not allocated to the Divisions and are managed at the Corporate level. Those expenses are addressed in the section “Unallocated Expenses” below.

Legal Accrual

In June 2014, the Company participated in a non-binding, voluntary mediation regarding the previously disclosed matter, State of California et al. ex. rel. David Sherwin v. Office Depot. The lawsuit sought claims based on allegations regarding certain pricing practices under now expired agreements that were in place between 2001 and January 1, 2011. In the mediation, the Company negotiated a potential settlement to resolve the matter. During the second quarter of 2014, the Company recorded an $80 million incremental increase to the legal accrual which included the potential settlement of $68 million, as well as attorneys’ fees and other related legal matters. The parties continue to work to resolve the matter. Any final settlement would require court approval and there can be no assurance that the settlement will be reached at all or on the terms proposed.

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Asset Impairments, Merger, Restructuring, Other Charges and Credits

In recent years, we have taken actions to adapt to changing and competitive conditions. These actions include closing stores and distribution centers, consolidating functional activities, disposing of businesses and assets, and improving process efficiencies. We have also recognized significant asset impairment charges related to stores and intangible assets and significant expenses associated with the Merger and integration. These activities are managed at the Corporate level and, accordingly, are not included in the determination of Division income for management reporting or external disclosures. Each of these expense items are expected to continue in future periods.

Asset Impairments

The Company recognized asset impairment charges of $22 million and $4 million in the second quarters of 2014 and 2013, respectively, and $72 million and $10 million in the first half of 2014 and 2013, respectively. The second quarter of 2014 impairment charges include $10 million for store impairments and $12 million resulting from a decision to convert certain websites to a common platform. The impairment charges in the first half of 2014 also include $28 million related to the abandonment of a software implementation project in Europe, $13 million to write off of capitalized software following certain information technology platform decisions related to the Merger, and $1 million from a decision to close the 19 Grand & Toy stores in Canada acquired as part of the Merger.

The store impairment charges recognized in the second quarter and first half of 2014 were based on discounted cash flow analyses of the retail locations that assumed a sales decline the next year similar to recent experience, with negative but improving trends for later years. Gross margin assumptions and operating costs were assumed to be consistent with recent actual results and planned activities.

Based on development of the real estate strategy during the second quarter of 2014, the Company currently anticipates closing at least 400 stores by the end of 2016, including approximately 165 stores in 2014. For purposes of the store impairment analysis for the second quarter of 2014, cash flow periods were limited to the likely closure dates identified in the analysis. Over this implementation horizon, the extent and identity of closures is likely to change based on market condition, competitive behavior, results experienced from closures compared to expectations, the real estate market and other factors. To the extent that future sales and operating assumptions in the current portfolio are not achieved or are subsequently reduced, or more or different stores are closed, additional impairment charges may result. Additionally, we may experience volatility from the timing of recognition of impairment charges followed by credits related to capital leases and deferred rent accounts if the leases are terminated or modified. However, at the end of the second quarter of 2014, the impairment analysis reflects the Company’s best estimate of future performance, based on the current business model.

Merger, restructuring and other operating expenses, net

Merger

We recognized Merger-related expenses of $92 million and $17 million in the second quarters of 2014 and 2013, respectively. In the first half of 2014 and 2013, Merger-related expenses amounted to $188 million and $32 million, respectively. The $188 million incurred in 2014 includes (i) $119 million of employee related expenses for termination benefits and certain incentives to retain and motivate employees; (ii) $59 million related to transaction and integration activities, which were primarily legal, accounting, and integration-related; and (iii) $10 million of other expenses.

Expenses in the 2013 periods were incurred by Office Depot prior to the Merger and include investment banking and professional fees associated with the transaction, including preparation for regulatory filings and shareholder approvals, as well employee retention accruals. It is expected that significant Merger-related expenses will continue to be incurred in future periods as decisions are made about facility closures, organizational structure and other integration activities. We estimate that merger and integration expenses will be $400 million during the three-year period of 2014 through 2016, excluding costs related to rationalizing and optimizing the U.S. retail store base and other asset impairments. We anticipate that approximately $300 million of these integration expenses will be incurred in 2014. In addition, for all store closures in 2014, we expect to accrue approximately $40 million for any remaining lease obligations, subject to mitigation through negotiations with landlords and in some cases subleasing.

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Refer to Note 2, “Merger” and Note 3, “Merger, Restructuring, and Other Accruals”, in Notes to the Condensed Consolidated Financial Statements for additional information

Restructuring and other operating expenses