Dividend stocks are everywhere, but many just downright stink. In some cases, the business model is in serious jeopardy, or the dividend itself isn't sustainable. In others, the dividend is so low, it's not even worth the paper your dividend check is printed on. A solid dividend strikes the right balance of growth, value, and sustainability.
Today, and one day each week for the rest of the year, we're going to look at one dividend-paying company that you can put in your portfolio for the long term without too much concern. This isn't to say that these stocks don't share the same macro risks that other companies have, but they are a step above your common grade of dividend stock. Check out last week's selection.
This week, we'll turn our attention to the drugstore industry and examine why Walgreen (NYSE: WAG ) could be a delectable dividend play for income seekers.
Not all is well
Despite popular belief, not all is well with drugstores. There are certain factors negatively affecting the sector and Walgreen that have made growth challenging.
As a sector, slow economic growth spurred by relatively weak consumer spending and higher payroll taxes has spurred weakness almost across the board. For Walgreen, weaker front-end sales (i.e., non-pharmacy sales) and a 3.9% decline in traffic caused it to report revenue that was slightly below the Street's expectations in the third-quarter.
But, this concern isn't just relegated to Walgreen. Rite-Aid (NYSE: RAD ) , for instance, only recently recorded an annual profit in fiscal 2013 -- its first such annual profit since 2006! Rite-Aid's problems flow from two fronts: weaker store traffic and extremely high debt levels, which weigh down its strategic options. Even the bigger CVS Caremark (NYSE: CVS ) is having its own set of problems. In the first-quarter it delivered a pharmacy same-store prescription increase of 2%, but saw pharmacy same-store sales dip by 1.4% because of more generic prescriptions being filled. This is a low-margin sector, so anything that can drag down margins can dramatically affect these stocks.
Another challenge for Walgreen is its still impaired relationship with pharmacy-benefits management company Express Scripts (NASDAQ: ESRX ) and its members. Although Walgreen and Express Scripts came to a multi-year agreement that allowed Express Scripts members to again fill their prescriptions at Walgreen as of September, close to eight months went by last year where the two weren't partners, allowing its competitors to gobble up pharmacy prescriptions for Express Scripts members. Express Scripts may have forgiven and forgotten, but consumers may not be so easy to win over.
The big impetus that could drive customer traffic through the roof for Walgreen is the impending implementation of the Patient Protection and Affordable Care Act, known also as Obamacare. The bill, set to go into full effect on Jan. 1 for individual plan holders, will require people, by law, to carry health insurance. That simple mandate could be the driving force behind more preventative doctor visits and a cascade of new drug prescriptions that'll need a pharmacy to call home. The good news is that even if generic prescriptions which come with lower margins are increasing in number, the sheer volume boost that Walgreen could see from them may be more than enough to negate any margin shrinking it may experience in the process.
Walgreen is being quite proactive in this process as well, partnering up with WellPoint's (NYSE: WLP ) Blue Cross Blue Shield Association to help educate the public about what the PPACA is, what it does, how it might affect them, and where to get insurance. For WellPoint which purchased AMERIGROUP for $4.5 billion to get a hold of as many Medicaid-based customers as possible on the heels of a huge expansion of the Medicaid program, and Walgreen which is counting on an influx of new pharmacy orders, this partnership is a match made in heaven.
Another area where Walgreen has a chance to excel is in building customer loyalty. We've been seeing a lot of retailers turn to loyalty rewards cards in order to entice shoppers to be more loyal. Despite the margin-reducing ability of these cards, I don't believe we've seen much of an affect to Walgreen's bottom-line profits, which signals to me the company is cautiously discounting.
Don't discount the company's $6.7 billion purchase of a 45% stake in Alliance Boots a year ago, either. Many analysts disliked the move, thinking Walgreen overpaid for its stake in Alliance Boots. As for me, I see this as a smart way for Walgreen to expand into Europe and, more importantly, emerging-market countries that can buoy growth that just isn't as prevalent at the moment in the United States.
Show me the money, Walgreen
In spite of having multiple alluring factors, perhaps none stands out more for Walgreen than its ongoing attempts to improve shareholder value through share repurchases and dividend increases.
In 2010, Walgreen announced a whopping $1 billion share repurchase program. Apparently not thinkng that was enough, less than a year later, the company introduced a $2 billion share buyback. Although I'd always prefer dividends over share buybacks, these programs do help buoy EPS by reducing total shares outstanding and can boost the overall share price.
What's truly remarkable about Walgreen, though, is its 38-year streak of raising its dividend, placing it among the elite of all dividend paying companies. Just this past week, Walgreen announced it would be boosting its quarterly payout from $0.275 to $0.315, a 14.5% increase, which perpetuates a series of dividend boosts that began in the 1970s. Furthermore, Walgreen's compound annual dividend growth rate over the past five years is nearly 23%!
The best part from a shareholder's perspective is that the dividend increases are probably going to continue without a hitch for the foreseeable future. Based on Wall Street's projected EPS this year, Walgreen is only paying out 40% of its earnings as a dividend, which is more than sustainable and should lend to future dividend hikes from its current 2.4% yield..
One profitable prescription
If you're looking for an intriguing way to play Obamacare, look no further than Walgreen. A steady influx of newly insured patients coupled with its loyalty rewards platform and stake in Alliance Boots which gives the company access to faster growing emerging markets all make Walgreen an attractive investment opportunity. Add on 38 straight years of dividend increases and steady share buybacks, and you have what I suspect is a formula for long-term wealth appreciation.
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