In mid-March, I penned some thoughts about struggling drug store chain Rite Aid Corporation (NYSE:RAD), mostly deciding it wasn’t going to be able to recover unless Walgreens Boots Alliance Inc (NASDAQ:WBA) successfully bought it. With that deal increasingly looking like it was not happening, RAD stock simply wasn’t worth the trouble.
A lot’s changed since then. Namely, Walgreens effectively gave the Federal Trade Commission a deadline to make a decision on the proposed merger, and Rite Aid posted quarterly earnings that weren’t disastrous. That is, it beat top- and bottom-line estimates.
Still, to say Rite Aid is on the mend and doesn’t need the Walgreens deal is a considerable stretch.
Still Not Much to Like
On the off chance you’re not familiar with the backstory, Walgreens first announced its intent to buy Rite Aid in late 2015, initially offering $9 per share of RAD stock. The deal would not only expand Walgreens’ footprint, it would mean the modernization of Rite Aid’s stores, not to mention let Walgreens into the pharmacy-benefits management arena where rival CVS Health Corp (NYSE:CVS) is carving out a nice-sized piece of the market for itself (as the business of pharmaceuticals increasingly becomes a vertically-oriented one).
The FTC balked, for a handful of reasons, not the least of which is that it’s presently understaffed and needs at least one more voting commissioner to help make — and legitimize — the decision. Even then though, the remaining two of the five commissioners involved in the decision have already made it clear the FTC is concerned about culling too much competition.
Walgreens proposed solution: Sell as many as 1200 Rite Aid stores to rival Fred’s, Inc. (NASDAQ:FRED), maintaining meaningful competition in all key markets.
The FTC is reportedly more open-minded with that plan on the table, though it’s still anything but a sure thing. And if it doesn’t happen, yes, Rite Aid and therefore RAD stock are still both in trouble.
Fast forward to April 25, and Rite Aid reported a breakeven on sales of $8.5 billion for the quarter ending at the end of February. Analysts had modeled a loss of two cents per share of RAD stock and revenue of $8.265 billion.
The market reacted bullishly to the news. RAD stock is up 7% since the fiscal fourth-quarter report, bringing a much-needed end to the 54% rout since the end of 2016. That’s when traders began recognizing the Walgreens/Rite Aid pairing may never happen. Its fiscal Q3 earnings report from December wasn’t exactly inspiring either.
Before you step into RAD on assumptions that things can’t get any worse, and can only get any better from here if Walgreens Boots Alliance somehow convinces the FTC to approve the union of the two companies, just don’t. Here’s why.
Aside from the fiscal Q4 beat, there’s not much else praise-worthy about the recently completed quarter. The company earned six cents per share in the same quarter a year earlier, and same-store sales fell a pretty hefty 3%, extending a long-standing streak in shrinking margins despite modest revenue growth.
A second look at Rite Aid reveals that not much has changed in the meantime in terms of operations that would improve profitability.
The Walgreens deal looks like the only way out for the company struggling to handle all of its expenses.
At this point though, given how Walgreens has already lowered its initial offer to reflect the falling price of RAD stock as the FTC deliberated, even if it’s allowed to proceed there’s no assurance Walgreens would end up paying even the lower tier of the proposed $6.50-$7 range, depending on how many stores the Federal Trade Commission wants Walgreens to pass along to Fred’s.
It certainly wouldn’t have to pay $6.50 — plenty of RAD stock holders would gladly take much less just to end the nightmare.
Bottom Line for RAD Stock
In many ways it’s been amazingly frustrating. Had the deal been done in early 2016, the full price of $9.00 would have been realized and Walgreens would have been able to work a little turnaround magic.
Being delayed a year now, not only was Rite Aid’s business allowed to continue unraveling, it’s become crystal clear what a trainwreck — and potential money pit — that it is.
Walgreens still says it wants it, but it’s difficult to believe CEO Stefano Pessina is as adamant about it as he was a year-and-a-half ago. And, he certainly doesn’t have to worry about getting into a bidding war.
So again, with the acquisition being the only going in Rite Aid’s favor and even that deal being far from guaranteed, you can continue to pass up what some have been calling a bargain-priced stock.
It’s cheap for a reason.
As of this writing, James Brumley did not hold a position in any of the aforementioned securities.
