Novice Investing - Rite Aid Takes The Wrong Drug

Date: Tuesday 07th 2008f October 2008 01:57:58 AM

Rite Aid Takes The Wrong Drug - 08/24/2006

By: Novice Investing Staff

Seriously, Rite Aid Corp. (RAD) needs help. It needs to bring its stock price up above the penny-stock status. However, what it did on Thursday August 24th 2006 did not help its cause. Rite Aid announced that it is buying the Brooks and Eckerd drugstore chain from Canada's Jean Coutu Group for $ 2.6 Billion. The headline looks good for Rite Aid. It expects the newly acquired stores (1858 stores in total) to add 9 to 15 cents of earning a year from now.

The good news stop there. If you look further, Rite Aid is financing the buyout with $ 1.45 Billion in cash, 250 Million shares of common stock and assuming $ 850 Million of debt. If you do simple addition, the media is valuing Rite Aid's common stock at around $ 1.5, instead of recent price of $ 4.00 +. Meanwhile, Rite Aid is valued at about 2.5 Billion before the deal was announced. In essence, it is buying another competitor of the same size with mostly cash.

Cash is what they do not have. What is Rite Aid thinking? Early in the decade, the company was in the verge of bankruptcy under the $ 5 Billion debt and losing profitability. Now, after years of refinancing, reissuing shares and repaying all those debts, Rite Aid debt stands at $ 2.47 Billion as of March 2006. Cash stays at a minimum level of $ 76 Million. Since Rite Aid does not possess $ 1.45 Billion in cash, it is almost certain that Rite Aid will increase its debt in the balance sheet by ( $ 1.45 Billion + $ 0.85 Billion) = $ 2.3 Billion. Total long term debt now will $ 4.7 Billion. Total interest payment will rise to $ 59.6 Million for one quarter, wiping out almost of its cash on hand.

To give you another idea how dire the situation is, Rite Aid's cash on hand is merely about 2 days' sales. If suppliers decide to cut off their financing term, in two days, Rite Aid will most likely bleed to death. That is less likely. However, with the doubling of long term debt, Rite Aid will lose any flexibility to improve its performance now.

The most plausible scenario is for Jean Coutu to acquire Rite Aid sometime in the future. With this deal, Jean Coutu has acquired about 32% of Rite Aid's outstanding stock and is the largest shareholders. Thus, while it looks

like Rite Aid was buying Jean Coutu's shares, the reality is Jean Coutu is acquiring 32% of Rite Aid. Not that we feel that both are benefited. This is a loss-loss situation for both parties. There is just no way it can survive well with such low cash level, high long term debt ( $ 4.7 Billion ) and high store counts (5177 stores). The more stores you own, the higher cash you need for maintenance and improvement. If the deal fails to live up to its expectation ($ 150 Million in cost saving), expect analysts to predict bankruptcy for Rite Aid.

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Disclaimer: The sole purpose of this article is educational. This article is merely the opinion of the writer and is not in any way a buy/sell recommendation regarding Rite Aid Corp. (RAD) or any other securities.

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