Is Rite Aid a Buffett Stock?

Warren Buffett attracts a lot of attention. As the world's third-richest person and most celebrated investor, thousands try to glean what they can from his thinking processes and track his investments.

While we can't know for sure whether Buffett is about to buy Rite Aid (NYSE: RAD  ) -- he hasn't specifically mentioned anything about it to me -- we can discover whether it's the sort of stock that might interest him. Answering that question could also inform whether it's a stock that should interest us.

In his most recent 10-K, Buffett lays out the qualities he looks for in an investment. In addition to adequate size, proven management, and a reasonable valuation, he demands:

  1. Consistent earnings power.
  2. Good returns on equity with limited or no debt.
  3. Management in place.
  4. Simple, non-techno-mumbo-jumbo businesses.

Does Rite Aid meet Buffett's standards?

1. Earnings power
Buffett is famous for betting on a sure thing. For that reason, he likes to see companies with demonstrated earnings stability.

Let's examine Rite Aid’s earnings and free cash flow history:

Source: Capital IQ, a division of Standard & Poor's. Free cash flow is adjusted based on author’s calculations.

Over the past five years, Rite Aid has generated mostly losses.

2. Return on equity and debt
Return on equity is a great metric for measuring both management's effectiveness and the strength of a company's competitive advantage or disadvantage -- a classic Buffett consideration. When considering return on equity, it's important to make sure a company doesn't have an enormous debt burden, because that will skew your calculations and make the company look much more efficient than it actually is.

Since competitive strength is a comparison between peers, and various industries have different levels of profitability and require different levels of debt, it helps to use an industry context.

Company

Debt-to-Equity

Return on Equity (LTM)

Return on Equity (5-year average)

Rite Aid

N/A

N/A

N/A

CVS (NYSE: CVS  )

26%

9%

12%

Walgreen (NYSE: WAG  )

16%

16%

17%

Express Scripts (Nasdaq: ESRX  )

63%

33%

52%

Source: Capital IQ, a division of Standard & Poor's.

Rite Aid doesn’t have a return on equity or a debt-to-equity ratio because it has negative equity -- generally not a positive sign. It has $5.9 billion in net debt and an interest coverage rate of 0.5 times.

3. Management
CEO John Standley has been at the job for about a year. Prior to that, he’d served as Rite Aid’s CFO and the CEO of a supermarket chain.

4. Business
Drug stores aren’t particularly susceptible to technological disruption.

The Foolish conclusion
Regardless of whether Buffett would ever buy Rite Aid, we've learned that while the company operates in a fairly straightforward industry, it doesn’t particularly exhibit the other characteristics of a quintessential Buffett investment: consistent earnings, high returns on equity with limited debt, tenured management.

If you’d like to stay up-to-speed on the top news and analysis on Rite Aid or any other stock, simply click here to add it to your stock watchlist. If you don't have one yet, you can create a watchlist of your favorite stocks by clicking here.

Ilan Moscovitz doesn’t own shares of any company mentioned. You can follow him on Twitter @TMFDada. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


Read/Post Comments (2) | Recommend This Article (1)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On June 29, 2011, at 6:53 PM, ctyank99 wrote:

    To all of you that own Rite Aid, be sure to shop there. If every shareholder shopped at Rite Aid, it would help!

    The Motley Fool have been bashing RAD for as long as I can remember. They've lost they're credibility with me, so let's prove them wrong.

  • Report this Comment On June 29, 2011, at 8:02 PM, spawn44 wrote:

    Rite Aid value is not in how much it's return on equity is. The value is in what the right operator can do with it's many excellent locations and leases. Which is on the come. I don't have any idea if Buffet or Wal-Mart will buy this company. Buffet did recently buy into the chinese auto company on the come. Some retailer with a great idea will probably snap it up sooner or later.

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