Despite the punishment Rite Aid Corporation (NYSE:RAD) stock has taken due to the blocked $17.2 billion merger with larger rival Walgreens Boots Alliance, Inc. (NASDAQ:WBA), owning RAD stock today not can pay off in the long run.
Rite Aid Corporation (RAD) Stock Is a No-Brainer Buy. Seriously.
In fact, to steal a phrase from billionaire investor Carl Icahn, it looks like a “no-brainer.”
Where Rite Aid is Today
Shares of the U.S. drugstore chain, which closed Monday at $2.31, have fallen 72% year-to-date and 68% over the past year. Consider that in January, Rite Aid was valued at more than $8.5 billion, versus a valuation of around $2.4 billion today.
Investors should ask themselves this: Other than market expectations and Walgreens’ decision to end its merger attempt, what has drastically changed for the worse in six months?
Plus, with Walgreens instead deciding to buy roughly half of Rite Aid’s stores, from which the latter can use proceeds to pay down debt, Rite Aid’s fundamental metrics can drastically improve. In fact, Rite Aid is actually up 7% on Tuesday morning after it released some pro forma information about the pending $4.9 billion sale of stores and other assets to Walgreens. The information showed that EBITDA after the sale was $743 million despite selling roughly half its stores. It was $1.137 billion before the sale.
Yet RAD stock has been trading on the assumption that the company will cease to exist without the full buyout from Walgreens. That’s just not the case.
Based on Monday’s closing price, versus the consensus price target of $4, RAD stock presents potential premiums of more than 73%. That’s on the low end.
As such, I see an opportunity here for investors to make some strong gains, especially since there is now evidence that RAD stock has bottomed. The important short-term price target to watch today is the $2.50 level — an important psychological threshold.
And for the longer-term?
Where Rite Aid Will Be a Year From Now
All told, there are now more buyers than there are sellers as the market begins to assess what the “new Rite Aid” will look like a year from now, given that the new proposed Walgreens deal would acquire 2,186 Rite Aid stores. And here’s the thing: The new deal comes with Walgreens offering to pay some $5.2 billion in cash to Rite Aid, which to me is the biggest factor that is being overlooked.
Rite Aid’s $7.24 billion in debt as of the most-recent quarter has been the biggest overhang to RAD stock. Assuming the company uses the $5.2 billion in cash it receives from Walgreens to pay down debt, the debt burden not only would fall to around $2.5 billion, but it would drastically reduce the interest expense Rite Aid pays on the balance. The savings could then fuel cash flow, thereby stabilizing operations.
What’s more, terms of the new deal with Walgreens gives Rite Aid a 10-year window to buy prescription drugs through Walgreens, paying the same price that Walgreens pays. Assuming Rite Aid management is able leverage these advantages, RAD stock could be a potential turnaround candidate for the next 12 to 18 months.
Not to mention, during that period, there’s still the possibly of another suitor can step in and take out Rite Aid.
Will Amazon Buy Rite Aid?
Lead by billionaire founder and CEO Jeff Bezos, Amazon.com, Inc. (NASDAQ:AMZN) continues to push the envelop on what is possible at the intersection of retail and tech. With Amazon wanting to be a part of all facets of people’s lives, analysts now believe Bezos’ next target could be the remaining Rite Aid stores that Walgreens won’t buy.
Back in May CNBC reported that Amazon had hired a business lead to help the company enter the lucrative pharmacy market, where an estimated 4 billion prescriptions are filled annually, while Americans spent some $300 billion on prescription drugs in 2015.
Analyst David Larsen of Leerink Partners believes the pharmacy market is primed for Amazon to want to disrupt. “Following the [Whole Foods Market, Inc. (NASDAQ:WFM)] acquisition, we estimate [Amazon] will still have a net cash balance of [about $100 million to $200 million] and a negative leverage ratio,” Larsen noted. “This leaves room for an additional debt-funded deal which could be either a pharmacy chain such as [Rite Aid] or a pharmacy benefit manager if the company chose not to expand its internal offering.”
Bottom Line for RAD Stock
There’s no guarantee that Amazon — or any other suitor, for that matter — will buy the remnants of Rite Aid. But that doesn’t change the narrative that RAD, as a new company, looks better than it did a year ago. The company now has many levers it can pull to create value for shareholders.
And from a risk-versus-reward perspective, RAD stock is a no-brainer. Expect shares to trade between $4 and $6 per share a year from now.
As of this writing, Richard Saintvilus was long RAD.
