Household name and dividend growth stock Walgreens Boots Alliance (WBA -0.44%) hasn't been good to shareholders for some time now. The stock is down from over a decade ago, even if you had reinvested dividends.
So what's the problem? Walgreens is transitioning its business beyond prescriptions and retail stores and is working through a bloated balance sheet from an acquisition spree over the past few years.
It's a potential comeback story in motion, but does that mean now is the right time to buy the stock? Here is where Walgreens stands and whether you should consider buying shares or wait it out.
A new business model
Walgreens Boots Alliance is a global pharmacy business with more than 13,000 stores across the U.S., Latin America, and Europe. The company operates stores where patients can get prescriptions filled and shop for general goods like food, beverages, cosmetics, and more. You can think of getting your prescription filled as the bait that attracts you as a shopper. Walgreens wants you to come to its stores to fill your prescriptions and buy a bunch of stuff while you're there.
But Walgreens decided it wanted its stores to offer more value than prescription fills and retail, especially in a world where e-commerce is becoming the standard. The company acquired VillageMD and CareCentrix over the past several years, giving it offerings for primary and specialty care, specialty pharmacy needs, and even home services.
Image source: Walgreens Boots Alliance.
The idea is that patients can fill multiple needs through Walgreens' various services as they progress through care, not just fill a prescription and disappear until the next prescription. The company has already established VillageMD clinics adjacent to more than 200 Walgreens stores as of early this year. More touch points with patients will hopefully bring more traffic and business to Walgreens.
Working through some financial pains
A lot is going on with Walgreens, and it is suppressing the company's cash flow, which plummeted in 2022 due to a myriad of factors. These include a drop-off in COVID-19 vaccinations, increased investments into VillageMD, and a handful of legal settlements. Additionally, Walgreens carries more than $13 billion of debt on its balance sheet, though it has a healthy $1.8 billion cash balance.
Walgreens' financials are making progress; free cash flow in the company's most recent quarter was $677 million. That's a step in the right direction after burning $117 million in the first quarter. Investors should monitor free cash flow in future quarters to ensure it's at least covering the dividend, which costs roughly $414 million each quarter.
WBA Free Cash Flow data by YCharts
The future looks promising if free cash flow stabilizes. The stock's dividend yield is 6.1% at the current share price, and a 60% payout ratio leaves enough room to pay down debt as cash flow recovers to previous years' levels.
The stock is cheap... but is it a buy?
The market hasn't been kind to Walgreens, nor should it, considering the past decade and wounded financials. Shares are trading at sub-market valuations, with a price-to-earnings ratio of 7 versus 18 for the S&P 500. Moving forward, analysts believe Walgreens will grow earnings per share by an average of 3% over the next three to five years.
WBA PE Ratio (Forward) data by YCharts
The discounted valuation seems fair until Walgreens can generate more earnings growth. Still, the stock could deliver 9% to 10% annual investment returns with no contribution from the valuation. That seems like solid compensation if you believe Walgreens can successfully transition its business and enter a new era of earnings growth.
At that point, the market could revalue the stock much higher, potentially rewarding investors for their patience with outsized gains. If and when that time comes is still impossible to call, so investors should temper their expectations for now. That said, Walgreens is a turnaround story worth at least looking into at its current price.
