This is RAD

Written by GSCR Staff   
Friday, 12 April 2013 11:44

You would think after all of this time I would learn to never say "never." Still, like many, I "never" seem to learn from my mistakes. For example, I thought I would never have a favorable attitude about Rite Aid Corp. (NYSE – RAD - $2.12.) Until now.

Back in the early part of the 1990’s Rite Aid was a darling on Wall Street, with its CEO admired and respected by analysts and institutional investors alike. Martin Grass, the CEO and son of the Company’s founder lived not far from me in Baltimore and sat on a number of panels together in the area regarding investing and philanthropy.

Although I never kissed the ring I always was cordial toward Mr. Grass even though there was something cocky about him and some of the other leadership that I could not put my finger on. As a result, I never bought the stock, nor recommended it. About 2 years after he incurred the wrath of his neighbors with his twice a day commute to the Company’s headquarters via helicopter, he incurred the wrath of the U.S. Attorney’s office, the SEC, and other regulators.

A major accounting scandal forced bankruptcy which was just the beginning of its troubles. Later, Rite Aid agreed to pay $7 million to settle allegations that the company had submitted false prescription claims to United States government health insurance programs. There were other claims and charges, fits and starts, acquisitions of other chains, and no annual profitability for many years with the exception of 2007.

Now you see why I felt this was just one stock to avoid for all time.  After following its moves over the past few quarters and seeing the financials release and huge volume yesterday, my sentiment has changed dramatically. In our view, all of the bad news and history is reflected in the stock and it appears as if management has enabled it to turn the corner.  Moreover, the future appears bright.

Rite Aid, the nation’s third-largest drugstore chain recorded its first annual profit since 2007, and reported its second straight quarter of profitability, which leads us to believe that this is not a one-time event. For 4Q13, revenue was $6.45 billion with EPS of $0.13, versus the $6.44B and break-even results expected by the Street. As a result, the stock jumped 20% on five times the average daily volume and achieved a new 52-week high.

For the full fiscal year, the Company earned $107.5 million, or earnings per share of $0.12 cents, on $25.39 billion in revenue. For fiscal 2014, management now forecasts net income to range between $0.04 cents and $0.20 cents per share, on $24.9 billion to $25.3 billion in revenue.  The Street’s consensus is $0.03.

The EPS forecast range is wide given that a good deal of the income generation is based upon profits from the sale of generic drugs which, while they carry lower price tags than branded drugs, enable higher profitability. At current levels, the stock trades at roughly 11x the high end of the EPS guidance for next year and under the $2 billion market level.

Now that the Company has proven it has turned the corner in consecutive quarters and just blew away the Q4 EPS estimates, we believe that the stock will continue to be in play. If the trends continue, we would not be surprised to see this RAD stock reach the $3.00 level.

Disclosure: Goldman Small Cap Research analysts are neither long nor short these shares but may elect to purchase the stock within the next 48 hours.

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