Its challenges are formidable, so only certain investors should consider it.
As the great investor Peter Lynch once suggested, investing in companies that you know well and interact with every day can be a great way to exercise an edge and make a profit. But that doesn’t mean you should invest in every company you know well.
On that note, Walgreens Boots Alliance (WBA 4.19%) is a business that many of us are customers of, and often for many years. Yet it probably isn’t the best choice for investors who prefer a standard buy-and-hold-forever approach. With that in mind, let’s examine the stock and evaluate who it could be a good fit for and why.
Who this stock might appeal to
While Walgreens’ evergreen business model of operating retail pharmacies might make it seem like a safe stock to buy for those who are approaching retirement, in reality this company isn’t a good fit for that purpose. Nor is it a great choice for a long-term holding; over the last 10 years, the total return of its shares was -76%.
But there are a pair of investing styles that might find this stock to be worth a look. In particular, deep value investors and those who prefer to invest in potential turnaround plays might see an opportunity here. Here’s why.
Over the last five years, Walgreens’ trailing-12-month operating income collapsed, becoming a loss of more than $1.4 billion over the most recent four quarters. Management points to consumers having less spending power to explain the decline, and also to headwinds within the pharmacy industry as a whole stemming from difficulties with securing reimbursement from insurers.
In the same period, its quarterly total assets fell by 8.6%, reaching just under $83 billion. In other words, to cover the gap between its required expenditures and its operating losses, it’s depleting its cash reserves and selling off its assets.
For example, on Aug. 1, it sold off $1.1 billion of its shares of Cencora‘s common stock, reducing its stake to around 10%. The proceeds were intended for paying down some of the company’s long-term debt load as well as its capital lease debt, which together totaled nearly $28.8 billion as of its fiscal Q3.
So this business is heavily indebted, struggling to make its operations profitable again, and shrinking, both in ways that won’t actually hurt its ability to generate revenue, like selling its equity positions, and in ways that will, like closing stores. There is a distinct risk that it will go bankrupt if it cannot improve its operating efficiency over the long term. And this is where it starts to look like it could be a turnaround play.
It’s no secret that Walgreens has a massive footprint of retail pharmacies, as well as a legion of pharmacists and trained staff, not to mention many millions of customers. At least some of those customers don’t have any other option to get their prescriptions filled, so they’re locked in, which means there’s an economic moat. Therefore, the company has a large amount of genuine value, even if at the moment it’s liquidating that value to stay afloat.
The question is, how long it will need to be bailing itself out before stabilizing its operations and reducing its debt load to a manageable level? A decent estimate is that it will take at least a few years to stem operational losses, but knocking down the debt may be a longer-term project than what most investors would prefer.
There’s no rush to make a decision here
In the long run, it is feasible that by cutting its most unprofitable locations and services, and by making its existing locations and services more efficient, Walgreens will return to consistent operational profitability once again. And that could provide a decent return to those who buy its shares now, when things look bleak, and when the stock looks incredibly cheap.
For reference, its price-to-sales (P/S) multiple is currently just 0.05, whereas its price-to-book (P/B) ratio is only 0.55. Its valuation ratios put the stock’s valuation firmly in the bargain bin. But, like many of the products one finds in the bargain bin, its usefulness (as an investment) is questionable, and fairly dubious at this point in time. Remember, the company’s value will almost certainly continue to fall for at least a while longer, dragging its shares down in the process.
So what’s the approach here?
Even if you’re the type that typically invests in deep value stocks or wobbly turnaround plays, the smart move is to wait for a while longer, until evidence of an operational turnaround starts to accumulate. Look for at least two consecutive quarters of rising operating profits that can’t be explained away by seasonal factors or other temporary phenomena.
Until that occurs — and it might take years, and it might not ever happen — Walgreens stock is not a buy for anyone right now.