Best Stocks for 2021: Walgreens Boots Alliance Still A Cheap Stock to Buy

Editor’s note: This column is part of InvestorPlace.com’s Best Stocks for 2021 contest. Ben Reynolds’ pick for the contest is Walgreens Boots Alliance (NASDAQ:WBA) stock.

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Walgreens Boots Alliance (NASDAQ:WBA) is a global pharmacy-led health enterprise with a large presence in the United States and Europe. WBA is also one of our Best Stocks for 2021 recommendations.

WBA stock has generated total returns of 20.7% year to date. This is significantly ahead of the SPDR S&P 500 ETF (NYSEARCA:SPY), which has returned 17.3% so far this year.

Walgreens stock has generated market-beating returns so far in 2021. But there’s still potential for Walgreens stock to run even higher before the end of the year.

Even After Gains, Walgreens Stock Still Seems Undervalued

Walgreen’s management is guiding for adjusted earnings-per-share from continuing operations growth of around 10% in fiscal 2021 as of its third quarter earnings release from early July. That implies adjusted earnings-per-share from continuing operations of around $4.40.

The company’s earnings-per-share took a hit after the company completed the sale of its Alliance Healthcare business for ~$6.5 billion to AmerisourceBergen (NYSE:ABC) in June. But the sale allows Walgreens to eliminate $3.3 billion in debt from its balance sheet and fund future growth initiatives, so it bodes well for future growth. One such growth initiative is the September acquisition of 71% of specialty pharmacy Shields Health Solutions for approximately $970 million, with an option to acquire the remainder of the company in the future.

The company’s stock is currently trading for a price-to-earnings ratio of just 11.0 using our fiscal 2021 earnings-per-share estimate of $4.40. For context, the company’s historical average price-to-earnings ratio over the last decade is around 15.

A price-to-earnings ratio of 11 seems too low for a shareholder friendly company like Walgreens. Walgreens has increased its dividend payments for 46 consecutive years, including its recent 2.1% dividend increase in July. The company also regularly reduces outstanding stock via share repurchases: the outstanding share count is down 1% over the past year, and an impressive 20.5% since 2015.

Future dividend growth is very likely at Walgreens. The company’s payout ratio is just 43.4% using expected fiscal 2021 adjusted earnings-per-share from continuing operations and the company’s recently increased dividend. The company’s low payout ratio gives management room to increase the dividend even if earnings growth is stagnant.

If Walgreens were to return to its historical average price-to-earnings ratio of 15, that would imply a share price of $66 using expected 2021 fiscal adjusted earnings-per-share of $4.40. That’s potential upside of 41% from current prices. And that’s still far below the company’s all time high share price. WBA stock traded above $90/share back in 2015, so there’s precedence for a much stronger surge in share price if sentiment around Walgreens changes.

Walgreens’ Total Return Prospects

Walgreens stock currently has a relatively high dividend yield of 3.9%. This yield — coupled with a low payout ratio and likely dividend increases — should appeal to income hungry investors in or near retirement. It’s around triple the S&P 500’s paltry 1.3% dividend yield.

From fiscal 2011 through fiscal 2020, Walgreens managed to compound its adjusted earnings-per-share at 6.7% per year. The company has proven it can grow over a wide range of economic environments, as evidenced by a 46-year streak of consecutive dividend increases (which makes the stock a member of the exclusive Dividend Aristocrats list).

We expect the company to turn around from recent earnings-per-share declines over the past few years and return to moderate growth. We expect earnings-per-share growth of 5% per year going forward for Walgreens.

With 5% expected growth coupled with a 3.9% dividend yield, Walgreens offers investors expected returns of 8.9% annually before valuation multiple changes.

A conservative estimate of Walgreens’ fair value is to use a price-to-earnings ratio of around 10 or 11.  This would imply the company is trading around fair value now, given its forward P/E of 9.7.

But if the company’s stock again reaches its historical average price-to-earnings ratio of around 15 in the next 5 years, shareholders will see much stronger returns.  A return to a price-to-earnings ratio of 15 – which isn’t high by any stretch of the imagination – would boost returns by 6.4% annually.

This pegs Walgreens expected total returns at somewhere in the range of 7.0% to 15.0% annually over the next five years.

Final Thoughts on WBA Stock

Walgreens offers investors relatively high expected total returns over the next five years because it is still trading for a reasonable price-to-earnings ratio and has an above-average dividend yield of 3.9%

Additionally, the company has a fairly low payout ratio to go along with a long history of dividend increases. This gives WBA stock an appealing reward to risk profile.

Walgreens stock should appeal especially to investors looking for safe dividends, an above average yield, and a high likelihood of continued dividend increases ahead.

The company’s stock has appreciated so far this year, but that has only brought the stock from being significantly undervalued to being either fairly valued (conservatively) or still somewhat undervalued. Walgreens still has the potential to generate strong returns from now through the end of 2021.

On the date of publication, Ben Reynolds was long WBA stock.

Ben Reynolds founded Sure Dividend in 2014. Today, Ben continues to run Sure Dividend to help individual investors build high quality income portfolios.  Ben graduated Summa Cum Laude from University of Houston with a finance degree. His work through Sure Dividend has appeared on Forbes, Fidelity, Motley Fool, The Street, Yahoo! Finance and more.


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