Walgreens: 11.9% Dividend Yield Still On Unsteady Legs

seekingalpha11-18

Walgreens faces ongoing financial challenges, including a potential future dividend cut, despite recent progress in cost-cutting and debt reduction.The company's 11.9% dividend yield is not covered by...

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Fokusiert/iStock via Getty Images  Introduction As a dividend investor who plans to live solely off dividends in the next 5 - 7 years, I'm often more critical of a company's ability to pay its dividend. And although Walgreens Boots Alliance (NASDAQ:WBA) continues to face headwinds, the retailer has seemingly made progress in their turnaround. However, even with the 48% haircut to their dividend earlier this year, it still appears to be on unsteady legs. With the share price beaten down and a forward dividend yield of 11.9% at the time of writing, investors may be looking at Walgreens for its attractive yield. But even with current progress to free up capital, the company is still at high risk of an additional dividend cut, prompting my previous sell rating. In this article, I discuss the company's latest earnings, headwinds, and why investors should remain cautious on WBA's double-digit yield. Previous Thesis I last covered Walgreens this past May in an article titled: Another Dividend Cut Could Be Coming Soon. And it's a real possibility Mr. Market could be thinking the same thing. Great minds think alike? I'm kidding. However, WBA's share price has tanked since then, down nearly 38% while the S&P has gone on to make new highs, up 14.11% over the same period. Seeking Alpha During their then second quarter earnings, WBA showed some positive signs as they managed to beat on both their top and bottom lines due to their cost-cutting initiatives. They also delivered their first positive quarter of adjusted EBITDA due to Shield's strong performance. Despite this, however, they were forced to narrow their full-year guidance to $3.20 - $3.35, down from $3.20 - $3.50. With the dividend cut, this pushed WBA's dividend yield to a staggering 9.3% at the time. But cash from operations and free cash flow were still negative for the first half of the year, further signifying their dividend was still at risk. Fast-forward 6 months later, and dividend headwinds still persist, which I'll delve into later in the article. Promising Steps.... When companies are going through tough times, it's easy to point the finger and focus on the negative. But during Walgreens' Q4 earnings last month to end their fiscal year, the retailer saw some positive signs. For starters, revenue increased year-over-year and for the full-year. Revenue came in at $37.547 billion for the quarter, up from $35.422 billion in Q4'23. For the full-year, sales were $147.658 billion, a 6.12% increase over the same period. Management also achieved their 3 main goals for the fiscal year. They managed to significantly cut company costs by over $1 billion, reduce capital expenditures, and realize over $600 million in working capital. So, their new CEO is executing well, but it's clear the turnaround will take some time. How much? That remains to be seen. But in my opinion, at least 2 to 3 years. And this allowed WBA to make forward progress on their debt reduction, by $1.9 billion. This not only strengthened their balance sheet, but this positions them for a more positive future and dividend sustainability. The main metric that I prioritize when looking to invest in a company. Management is also planning to optimize its footprint in the transition. Most are likely familiar with their announcement to close 1,200 stores. And while this has also affected some REITs like Realty Income (O), who derives 3.3% of its annualized base rent from the retailer, this is small in comparison to WBA's total store count. Walgreens currently has over 8,000 stores, with roughly 75% profitable per management. This is also expected to accelerate funding going forward, as this will reduce costs and expenses. Peer CVS Health (CVS) is also planning to optimize its stores, with 270 expected to close in 2025 and a total of 900 over a 3-year period. Additionally, management plans to monetize non-core assets such as VillageMD. During the upcoming fiscal year, WBA plans to further reduce CAPEX by $150 million and realize $500 million in working capital initiatives. Shaky Dividend Coverage Despite WBA management's steps toward a more promising future realizing additional capital and strengthening their balance sheet, the 11.9% yield is currently not covered by free cash flow. And there's a high likelihood this won't be covered by the end of the new fiscal year, either. For FY24, Walgreens saw cash from operations of $1.018 billion and free cash flow of $23 million, significantly lower than FY23 that saw free cash flow of $665 million. Cash flows were impacted by more than $1 billion in total capital required for legal fees and Boots pension plan payments. Despite facing their fair share of headwinds also, CVS's cash flows were sufficient enough to cover their quarterly dividend payment of $837 million. Through their first 3 quarters, cash from operations amounted to $7.2 billion. Legal payments for WBA amounted to $934 million, and management expects higher legal fees in 2025. These are expected to amount to $1.1 billion, further impacting future cash flows for the near to medium term. And despite lower CAPEX and reduced costs from 500 store closings expected this FY, WBA's legal fees offset this. They did end the year with $3.2 billion in cash & cash equivalents on the balance sheet and $5.8 billion on their revolver. But with the expected higher impairment charges, it's likely WBA's cash flows won't sufficiently cover its dividend. WBA investor presentation Likely To Be A Multi-Year Recovery Below are their cash flow expectations for the upcoming fiscal year. Using their shares outstanding of 864.3 million, WBA needs to generate roughly $216.1 million in free cash flow per quarter, or $864.3 million annually, significantly higher than the $23 million they generated in FY24. WBA investor presentation With legal fees expected to be higher, it's unlikely for the retailer to generate enough free cash flow to cover the dividend, further signaling cash flow growth will take at least a few years to see positive signs of growth. And this was apparent by their soft 2025 guidance of $1.40 - $1.80, significantly lower than the previous 2 years that saw earnings per share of $3.98 and $2.88, respectively. Management touched on cash flow growth going forward during Q4 earnings. And while they didn't give a concrete answer, I think their skepticism confirms positive cash flow growth will take quite some time. So, from a free cash flow perspective, '25, a couple of things for you to consider. First is, we expected adjusted operating income to decline in '25. Now, roughly around $400 million of that is due to the lower sale leaseback contribution as well as lower earnings from Cencora (COR). Those items do not impact free cash flow. So, we just want to flag that. Outside of that, the legal payments in the fiscal year '25 expected to slightly increase as well, roughly around $1.15 billion total. Before they go down in '26, we expect them to decline in '26. Their CEO also mentioned that although they expect to generate cash from sales, everything, including reassessing the dividend, was on the table. With the stock trading at historical lows, I think it would be prudent to completely eliminate the dividend to free up additional capital to possibly speed up their turnaround. Or, potentially buyback shares to increase cash flow and earnings growth? But due to some forward progress, I suspect management will continue to try to keep the dividend steady at $0.25 for now. However, unsuspecting lawsuits could pose a risk, forcing management to do so should these arise going forward. So, for anyone looking at the juicy 11.5% yield and are thinking about investing here, this is a risk to consider moving forward. Cheap If You Believe In The Turnaround With a forward P/E of just 5.58x, Walgreens' valuation and high yield may be enticing for some. And if you're a risky investor, then they may be worth taking a stab at here if you have a longer-term outlook, as I mentioned, the turnaround is likely to take a few years. Although CVS' share price is down as well due to headwinds, their forward P/E of 9.16x is not as attractive as WBA's. Walgreens' current valuation is also below their 5-year average of 7.66x, hence the reason for the valuation grade of A. Using FAST Graphs' fair value of 9.71x, WBA offers potential upside of 62.48% from the current price of $8.93. And while this may appear attractive, a successful turnaround remains highly speculative. FAST Graphs Bottom Line As previously mentioned, Walgreens still faces potential risks from future lawsuits that could further impact its cash flows. So, for investors who find their double-digit yield enticing here, you should remain cautious as full dividend coverage is likely to be a lengthy process. However, WBA's management is making promising steps for future success with reducing debt and monetizing assets that could potentially drive cash flow growth in the coming years. Moreover, planned store closures could contribute as this is expected to eliminate costs. But despite seeing higher sales from the previous year, it's apparent Walgreens still has a way to go until investors are confident in the new CEO's ability to successfully turn the retailer around.  Although their share price and 11.9% yield is attractive at the moment, the high likelihood of an additional dividend cut makes them a sell.","kind":null,"is_publish_news":true,"is_publish_highlight":false,"is_publish_live":false,"is_publish_wemedia":null,"editions":null,"column":"","sentiment":"0","news_tag":"analysis","news_rank":0,"symbols":[],"gpt_button":0},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":0,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.29.2","shortVersion":"4.29.2","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2484696811"}