Investors in Rite Aid (RAD) were not too pleased with the fact that the company lowered its full year guidance, after very strong momentum both in the stock price and on an operational basis this year.
The fact that the company lowered the outlook, while competitors are upbeat about the prospects for the pharmacy market, is causing doubts among investors which triggered a violent sell-off.
Yet the absolute and relative valuation remains in check, with comparable store sales improving again. therefore I continue to be upbeat about the company's prospects.
Third Quarter Results
Rite Aid generated third quarter revenues of $6.36 billion, up 1.9% on the year before, coming in ahead of consensus estimates at $6.32 billion.
The company posted earnings of $71.5 million, up 15.6% on the year before. Earnings came in at $0.04 per share on a diluted basis, in line with expectations.
CEO and Chairman John Standley commented on the third quarter developments, "Our solid third quarter results were driven by the continued success of our key wellness initiatives, specifically the strong start to our flu immunization campaign, and the completion of additional Wellness stores, which now represent nearly a quarter of all Rite Aid stores."
Looking Into The Results ...
The growth in revenues is solid, as revenues for the first nine months of the year were flat. Sales rose on the back of an increase in pharmacy same store sales which rose by 2.3% over the prior 13-week period. A 3.5% increase in pharmacy sales was offset by a 0.9% negative impact from generic introductions.
While revenues were on the rise, adjusted EBITDA was under pressure. Adjusted EBITDA came in at $282.3 million, or 4.4% of total sales which compares to a margin of 4.7% last year.
Total cost of goods sold rose by 72 basis points to 71.7% of total sales. The company did manage to boost earnings as selling, general and administrative expenses fell by 18 basis points to 25.7% of total sales, while interest expenses fell as well. Note that last year's earnings were furthermore impacted by modest impairment charges.
Note that reported earnings of $0.04 per share included a negative impact of $0.03 per share due to the redemption of the G and H series of convertible preferred stock.
... And Ahead
For the full year of the fiscal 2014, Rite Aid now sees revenues of $25.30 to $25.42 billion. This on the back of an expected same store sales growth of 0.35 to 0.85%.
Net earnings are seen between $204 and $259 million, resulting in GAAP earnings per share between $0.17 and $0.23 per share, which compares to consensus estimates at $0.24 per share.
Previously the company guided for full year earnings of $0.18 to $0.27 per share. The forecast implies that fourth quarter earnings are seen between flat and six cents.
Valuation
Rite Aid ended the quarter with $183.2 million in cash and equivalents. Total debt stands at $5.95 billion, resulting in a net debt position of $5.77 billion.
Revenues for the first nine months of the year came in at $18.93 billion, unchanged compared to last year. Earnings attributable to shareholders came in at $160.0 million, compared to a $12.9 million loss in the comparable period last year. Note that Rite Aid took a loss of $25.6 million on conversion of Series G and H preferred stock.
Trading around $5 per share, with 988 million shares outstanding, the market values Rite Aid at $4.94 billion. This values equity in the firm at 0.2 times annual revenues and 21-22 times expected GAAP earnings.
Rite Aid does not pay a dividend at the moment.
Some Historical Perspective
Shares of Rite Aid have been a long run underperformer, that is until this year. After shares peaked around $50 in 1998 they fell to lows of $2 in 2002. Ever since, shares have recovered to levels around $6 to lows of just $0.25 per share in 2009.
So far in 2013, shares had a great year. Trading around $5 per share, they have nearly quadrupled so far. Note that shares have lost nearly 20% of their value from their highs just above $6 earlier in December of this year.
Between the fiscal year of 2010 and 2013, Rite Aid has consolidated its annual revenues in a $25-$26 billion range. After reporting sizable losses, to the tune of around $500 million in recent years, Rite Aid posted a small profit in 2013.
Investment Thesis
Rite Aid it the third largest drugstore chain in the US but it is plagued by continued operational difficulties. Poor comparable growth, lower margins and the debt position are impacting the prospects for the shares, that is until this year. The purchase of Brooks and Echkhard back in 2007 has not done the company much good either.
Yet investors are not happy with the fact that the company lowered its full year forecast, after the company made sizable steps forward earlier this year. Medicare reimbursement cuts and higher costs of generic drugs are reasons cited behind a lower forecast for next year, triggering a sell-off in Rite Aid's shares. This is especially true after competitor CVS Caremark (CVS) said that 2014 is looking to be a good year, while operating in the same external environment.
So while Rite Aid is facing pressure amidst cheaper generic, which do carry higher margins but simply result in lower sales, CVS is managing to make the best of these changes and is looking with confidence towards the future.
Back in September of this year, I last took a look at the prospects for Rite Aid after the company released its second quarter results. At the time, Rite Aid managed to show some revenue growth again, while posting improved earnings, notably on the back of a very strong adjusted EBITDA result.
I concluded that the company was benefiting from two major trends at the time. This includes more generic medication, yet the lower sales prices are proving to be a drag already. The other driver behind growth is the remodeling of stores into wellness centers with expanded pharmacy services and other healthy products, boosting comparable store sales.
At the time shares were approaching $5 per share as I concluded that earnings multiples were in place while shares traded at a huge discount to competitors based on revenue multiples, despite the very strong returns so far this year. Today I reiterate my stance, even after the violent sell-off over the past week. The momentum so far this year has been very strong, yet potential remains.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. (More...)
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