The Optimal Debt and Growth Strategy for Rite Aid Corporation
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The Optimal Debt and Growth Strategy for Rite Aid Corporation

An analysis of what Rite Aid Corporation is doing wrong, what led to the inevitable debt crisis Rite Aid faces and explores Rite Aid’s options and strategies for growth in the face of current business crisis. We also discuss bankruptcy, asset sales and debt (or asset) restructuring as possible strategies Rite Aid can employ to be viable again.

The biggest retail pharmacy chain stores in America (in order of size) are Walgreens, CVS and Rite Aid. The three companies account for a chunk of the profits made from prescription drugs, which is 23% of the total healthcare budget in the United States. The gross profits these companies make on an annual basis is mind boggling yet Rite Aid is having severe financial instability compared to CVS or Walgreens. This leaves us to wonder what Rite Aid is doing wrong and what led to the inevitable crisis Rite Aid faces today. We will start with the Balance sheet of the company. Provided below is the snapshot of the balance sheet. Figures highlighted in yellow are problems or key indicators while figures in light orange mean you should pay attention to those and the green highlighted figures are good indicators.

Image Source: SEC EDGAR Database

As you can see, the company’s cash assets took a decline from February of 2010 to 2011, a significant drop when considering that it’s a bit over $10,000,000 in liquidity that they lost. The increased account receivables indicate the company is not collecting on payments that are due to them, especially since the figure remains in the high $900,000,000 range. The total current assets in highlighted in yellow because of the decline from the previous year which indicates the negative health of the company. Accounts payable figures in the liabilities section actually increased from previous years and thus adding to the outstanding debt the company already owes, which is to the tune of over $6,000,000,000 USD. Even though it is a slight decline from the previous year, any healthy company should not possess such an outstanding balance in long term debt when considering the fact that it eats up a large chuck of revenues and is almost over 80% of the total asset the company owns. In fact, the total liabilities are actually over 2 billion dollars higher than the assets Rite Aid controls, making any repayment of such debt a difficult and drawn out problem. Even the sale of assets won’t earn enough liquidity for Rite Aid to dig itself out of this hole they got themselves into especially when considering the current trend in pharmacy retail setting (decreased overall profits), increased competition and depreciation of long term assets. The need to constantly upgrade the assets to ensure compliance with federal (and state) laws as well as the need to use modern technology to stay up-to-date with standards in retail pharmacy (such as e-scribing, firewall, data security etc.) will continue to drain Rite Aid’s coffers and decreases the life span of any depreciable asset they own.

Image Source: SEC EDGAR Database

Looking at the figures for the 3 years, we can see that the revenues are phenomenal for each year. The company is making money however the costs, expenses and liabilities are costing more money than they make which is why we see the financial instability with Rite Aid. Cost of Goods sold remains, as expected, a very high percentage of the total expenses in Rite Aid. A way to reduce the impact this can have on the company is to restrict all ordering points in the stores and mandate a just in time inventory system to control costs. Another point of contention is the high administrative costs – which I am going to ascribe to both the Brooks Eckered chain buyout in 2007 and the bad economy (both will be explained later, look at the debt info below). Clearly Rite Aid has improved a little from 2009 to 2011 as seen by the decreased net loss and decreased total expenses and this is partially due to the removal of some of the toxic assets from the Eckered chain sale. However the company is still in the negatives and it needs to explore better options to increase net profits or face solvency issues.

 

Image Source: Seeing Alpha Market Analysis

Rite Aid made the wrong move at the wrong time and buying Brooks Eckered chains sounded like a sound decision on paper but it brought the company more debt, bureaucracy and low performing stores than profits. The downfall of the economy simply add to the problem more as retail chains took a large hit due to rising drug prices and decreased profits. Rite Aid had a few options on getting out of this mess. One main avenue is to sell stores that are generating little to no overall profits to competitors and begin closing stores in locations with low prescription volume. This will decrease operating costs, administration costs and firing a few employees will help resolve the problem with salaries. Rite Aid is doing that already but it needs to begin aggressively “cutting the fat” or it will be a hunkering chain with no real productivity. The bad stores will simply sink the whole ship.

The second avenue available to Rite Aid is to declare bankruptcy. It will provide Rite Aid with some time to get its affairs in order, reassess its assets and provide some type of protection so it can clean house. Rite Aid’s fundamental flaw is that it is so focused on trying to expand more that it forgot to insure quality in already existing stores. What I mean by quality is that they expanded too fast with no established way to augment and increase individual store performance or a game plan. The classic example for this was seen in the takeover of Eckereds. After Rite Aid brought it, there were simply too many Eckereds stores right next to Rite Aid stores which is simply a waste of cash. Rite Aid should have negotiated better for the chain and avoided the toxic assets Eckereds held but cooperate greed and the desire to keep expanding allowed the management to make poor decisions that landed them in this pit they are in now – with low cash reserves, considerably less liquidity and a growing mountain of debt.

The Third option available to Rite Aid is to sell some of its assets. Currently Rite Aid is the perfect candidate for a buyout however none of the other major chains will touch Rite Aid due to the toxic assets it currently holds. Rite Aid would be able to survive and still be a huge regional power by selling off particular units (groups of stores) to competitors in less profitable regions of the country and becoming a strong regional power. Since Rite Aid is mostly in the North and Eastern US, they should focus on becoming a regional chain. National aspirations are good but it is that aspiration that got Rite Aid to where it is today. Simply sell other assets and use the extra cash to reduce the liabilities (the debt).

Let’s look at Rite Aid matches up to its market competitors:

 

Image Source: Yahoo Finance and Seeking Alpha

According to the data presented in the SEC filings and Yahoo Finance, Rite Aid’s best option is the third option. By cutting the amount of stores down, it enables the remaining stores to focus on performance. This requires a fundamental shift in the company thinking. The company is racing to open more and more stores when it should be taking a step back to analyze that they are doing wrong and begin to rectify the problem. Rite Aid is chasing the fantasy of being the #1 drug chain store in America when it can easily become a strong regional chain with large net profit. The only way to do that is to reduce the debt and that requires some sacrifice. Rite Aid is not prepared to do that which is why each Rite Aid store is close to $1.3 million dollars in debt. Compared to CVS and Walgreens, Rite Aid makes enough revenue to be a strong competitor in the market however it is generating low net income resulting from these debts. Rite Aid’s debt is like gangrene that is slowing destroying the company but the company does not want to amputate these toxic assets in order to survive and recover as a healthy unit. This is the fundamental flaw and problem with Rite Aid and until the company is ready to take this step, it will continue to suffer and if it goes on long enough, it would just be a matter of time before the charade is over.

Sources: All information presented or discussed in this article is based upon Rite Aid’s SEC filings recovered using the EDGAR database. Minor analysis from Seeking Alpha and Yahoo Finance were also used.

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