Walgreens (WBA) DIVIDEND CUT! Stock Fall, Would You BUY?

$Walgreens Boots Alliance(WBA)$

Walgreens recently announced a dividend cut after a 90-year streak. In this article, we'll break down why Walgreens made this decision, what it means for the company and its shareholders, and share my thoughts on the stock’s future.

Fundamental Analysis

Looking at Walgreens’ stock performance, it's clear the company has been struggling. Over the past decade, the stock has lost nearly 90% of its value, and the same trend holds over a 20-year period. This long-term decline suggests investors were aware of ongoing issues. Typically, dividend cuts don’t come out of nowhere—there are often warning signs in price action, and in Walgreens’ case, those signs have been evident for years.

This isn't just a case of a stock losing value due to multiple contractions. The fundamentals have worsened significantly. Over the last two to three years, the company's U.S. retail pharmacy operations—historically the backbone of its profitability—have seen operating profits drop by more than 50%, from over $5 billion to just over $2 billion. While international operations have remained relatively stable and U.S. healthcare assets are still slightly unprofitable, the decline in retail pharmacy profits is the primary driver of the stock’s under performance.

Dividend Cut

Regarding the dividend cut, management cited a shift in capital allocation, prioritizing balance sheet strength. This means they'll use free cash flow to reduce debt over time. However, the explanation that cutting the dividend will "improve free cash flow" is misleading. Free cash flow represents the money available for acquisitions, dividends, or stock buybacks. The real reason for the cut is that their cash flow could no longer support the dividend.

FCF

Now, they’re realizing they should have implemented more prudent financial policies in the past. It’s important to see through management’s corporate jargon—in this case, their claim that the dividend cut is meant to "improve free cash flow" isn’t entirely accurate. While reducing debt will lower interest expenses, which could indirectly boost free cash flow, the real focus is on debt reduction and turning around the retail pharmacy segment.

A key clue from management is their mention of the company’s cash needs over the next several years. This suggests that the dividend cut isn’t just about improving operations—it’s also about preserving cash for upcoming obligations, particularly litigation expenses and debt refinancing. These two factors are critical to understanding the decision.

In reality, the situation follows a clear sequence: poor operational performance led to the need for a dividend cut, not the other way around. If their operations had been stronger, they wouldn’t have needed to make this move. Parsing through management’s messaging, the core issues become clear—they have too much debt, face potential litigation costs, and are hoping for an operational turnaround to generate stronger free cash flow in the future.

Risk and Challenges

Looking at their debt obligations, Walgreens has a significant amount due, with over $8 billion in total debt and more than $3 billion maturing in 2026—just next year.

Last year, Walgreens was burning cash, which is a serious issue—especially for a company with significant debt and upcoming maturities. When a business has a large amount of debt coming due in a short period, it generally has a few options. Ideally, if it’s generating strong free cash flow, it can simply repay the debt. However, if that’s not the case, the typical approach is to "kick the can down the road" by refinancing—essentially finding new lenders to extend the debt.

The problem is that if a company’s operations are struggling and profitability is declining, the cost of refinancing tends to rise. Lenders see worsening financials and demand higher interest rates, leading to increased interest expenses, which further strain profitability. This creates a downward spiral: declining earnings lead to higher borrowing costs, which then further pressure earnings.

Walgreens does have a debt facility it could potentially use for refinancing, but $3 billion coming due in 2026 is a substantial amount—money they don’t currently have on hand. To cover this, they’ll need to either generate enough cash flow from operations, sell assets, or secure new financing under potentially unfavorable terms.

But debt is only part of the problem. The other major issue is litigation. Just this month, the U.S. Department of Justice filed a nationwide lawsuit against Walgreens, alleging that the company knowingly filled millions of prescriptions without a legitimate medical purpose. While the financial impact of this lawsuit remains unclear, it adds to a string of legal troubles.

Walgreens has already agreed to pay hundreds of millions in settlements for fraudulent healthcare billing in New Mexico, Texas, and Florida as of September 2024. Additionally, in November 2023, they settled another lawsuit for $100 million related to mispricing generic drugs. These repeated legal issues point to deeper structural and management problems within the company.

Taking a broader view, Walgreens’ margin pressures may also be a systemic issue. Pharmacy Benefit Managers (PBMs), which negotiate drug prices on behalf of insurers, have a significant influence over industry pricing. In some cases, PBMs are even owned by the same parent companies that operate insurers—think of CVS, which owns both a major PBM and a healthcare insurer. This industry dynamic puts additional pressure on Walgreens, further complicating its turnaround efforts.

Walgreens negotiates with pharmacy benefit managers (PBMs), which set the reimbursement rates for various prescriptions. This has led to significant pressure on prescription reimbursement, making a major turnaround uncertain given how complex and entrenched the PBM system is. In many ways, this could be a more fundamental challenge than even the company’s debt or litigation issues.

So, what are my thoughts on Walgreens stock from here? Clearly, there are substantial challenges. First, as always, this is not financial advice.

On a broader note, just last week, Zeus M., a premium member of the Unrivaled Investing community, shared this feedback: "I think not only do you deliver great value, but you've also built a great community." Similarly, Henrik, another premium member, stated that subscribing to the platform was "the best financial decision I've made in my life." If you're looking for compelling investment ideas, consider checking out Unrivaled Investing.

When assessing Walgreens, it's not surprising that it receives low quality scores. The company is burdened with significant debt, uncertain debt maturities, recent cash burn, ongoing losses, and a long-term decline in its stock price. Given this track record, an unbiased evaluation would likely result in poor ratings.

Insider Stock Ownership

However, one area where Walgreens does stand out is alignment. Stefano Pessina, the company's executive chairman, owns approximately 17% of the company and was previously the head of Boots, which Walgreens acquired. Notably, he does not take a salary, which signals a strong financial commitment to the company's success. This level of insider ownership increases the likelihood of a turnaround since his personal wealth is directly tied to the company's performance. That said, at over 80 years old, his long-term influence on the business remains uncertain.

Positive Factor

It’s important to understand this perspective. From an alignment standpoint, that's a positive factor. The valuation also appears compelling—despite all the challenges Walgreens is facing. Management is guiding for $1.40 to $1.80 in earnings per share this year, and with the stock trading below $10, that puts it at roughly six times forward earnings. If the company successfully executes its turnaround and avoids major litigation setbacks or additional financial troubles, there's potential for significant upside purely from valuation expansion.

Market Sentiment

However, Walgreens faces major structural issues. The company has been dealing with store theft, real estate restructuring, and broader retail challenges. Some of these problems stem from a lack of strong leadership over the past few years, contributing to operational inefficiencies.

Valuation

Looking at Walgreens through my investment checklist, some factors are promising. The management alignment is evident, given that Stefano Pessina owns 17% of the company and has a strong incentive to drive a turnaround. The valuation is also undeniably cheap, especially when compared to its historical profitability. If margins were to recover, the upside could be substantial.

Growth

But there are major concerns. I don’t see obvious growth potential—Walgreens is facing headwinds rather than expansion opportunities. Additionally, the risk of a major blowup remains high, given the Department of Justice lawsuit and debt obligations. While a turnaround is possible, the combination of litigation risks, financial pressures, and a lack of a clear long-term growth driver makes it difficult for me to have strong conviction in the stock.

Conclusion

Ultimately, Walgreens presents a high-risk, high-reward situation. For investors willing to stomach the uncertainty, there could be an opportunity if the company successfully stabilizes. However, it doesn’t align with my personal investment criteria, as I prefer businesses that qualify my checklist.

If this breakdown on Walgreens and its recent dividend cut has been helpful, I’d appreciate a thumbs-up and a subscription. Thanks for reading!

Disclaimer: I want to make it clear that I am not a financial advisor, and nothing I say is intended to be a recommendation to buy or sell any financial instrument. Additionally, it's important to remember that there are no guarantees or certainties in trading or investing, and you should never invest money that you can't afford to lose.

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Disclaimer: Investing carries risk. This is not financial advice. The above content should not be regarded as an offer, recommendation, or solicitation on acquiring or disposing of any financial products, any associated discussions, comments, or posts by author or other users should not be considered as such either. It is solely for general information purpose only, which does not consider your own investment objectives, financial situations or needs. TTM assumes no responsibility or warranty for the accuracy and completeness of the information, investors should do their own research and may seek professional advice before investing.

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