CVS at $85 billion market capitalization and Walgreens at $67 billion market capitalization make it two of the largest pharmacy distributors in the United States.
CVS and Walgreens both showcase yields greater than 2.50%, which is higher than the S&P 500 average yield.
CVS finalized their acquisition of Aetna pushing forward revenue to projected at $180 billion for the year versus Walgreens expected revenue at ~$140 billion, since purchasing over 1,900 Rite-Aid locations.
Every corner you see them. This is no coincidence that Walgreens (WBA) has their motto of, «At the corner of happy and healthy», as they are literally at each major intersection on the roads. What else is not a coincidence is at each location of Walgreens, you will find a CVS Pharmacy (CVS) across the street, almost as if saying, «I am watching you, anywhere that you go, I go». One could say that it’s actually vice-versa, given that CVS is now a much larger company, due to acquisition of Aetna and producing an expected revenue greater than Walgreens. However, concerns over who is at which corner of each town first are not the main point of this article. When considering investment between the two, one has to consider all of the events that have taken place over the last 12+ months for each entity.
CVS announced their acquisition of Aetna, a consumer health insurance company, for $69 billion in December of 2017 and completed the merger a year later. This was very timely, given that Amazon (AMZN) has begun its march towards being a major pharmaceutical distributor across many channels (especially with their announced $1 billion acquisition of PillPack). Aetna will be a monster add to CVS’s financial statements, as they were producing over $60 billion in revenue on their own, prior to the deal. However, this deal, though massive, added $40 billion of long-term debt to their balance sheet. This caused their credit ratings to be reduced, as well as CVS to halt any dividend increase in 2017, breaking their dividend increase streak and march towards Dividend Aristocrat status (25+ years of increasing dividends). However, CVS was not the only one making moves.
Walgreens had worked on a deal to buy Rite-Aid, that did not go so well and never was able to be finalized. Reason why this was not accepted was due to being left with only two major drug chains, cough/cough – CVS and Walgreens. However, towards the end of 2017, Walgreens was successful in being approved to buy 1,932 stores for $4.4 billion in cash and other consideration, which was completed in the spring of 2018. Walgreens took on an additional $1 billion of debt but has since repaid majority of that through the end of 2018. This allowed Walgreens to expand footprint, add to their financial performance, as well as to not over-burden themselves with more debt. Further, on the flip-side, Walgreens increased their dividend by 10% back in August of 2018, their largest increase in quite some time.
Financial Performance of CVS and Walgreens
|Ticker||Revenue*||Net Income*||Current Assets||Inventory||Current Liab.||LT Debt||Current Ratio||Quick Ratio|
*Revenue & Net Income are annualized based on recent 10-Qs filed
This wouldn’t be an analysis without looking at their financial performance. I reviewed CVS 10-Q results for the 3 and 9-month ending September 30, 2018, and Walgreens 10-Q results for the 3-month ending November 30, 2018. CVS demonstrated strong revenue growth, and this does not even include results from the close of the Aetna merger, which closed on 11/28/18. Further, the current and quick ratios are strong, and they have more than ready available assets to satisfy obligations 2x over. I went in with expectations that their ratios would have reflected poorly due to the massive long-term debt that they have on their balance sheet. Therefore, I am surprised here.
Walgreens, on the other hand, demonstrated strong revenue growth, as well, of 10% top-line, and net earnings were up over 35%, which was aided by lower tax provision due to tax reform. What I expected from the balance sheet is absolutely different than what is reflected in their 10-Q. Their current and quick ratios aren’t even over 1, which was very surprising. I typically can understand if the quick ratio is further from the 1.0 threshold, but the current ratio was still 20 points away from there, and that is with including inventory in the calculation. Therefore, coverage isn’t as strong as CVS, in this case. However, Walgreens has significantly far less debt than CVS has. Therefore, both balance sheets have pros and cons.
Now that we’ve seen their recent financial statements, let’s dive into their dividend analysis, primarily using our Dividend Diplomat Stock Screener.
CVS and Walgreens Dividend Analysis
|Ticker||Stock Price*||Dividend||Forward EPS**||Dividend Yield||Payout Ratio||3-Year Growth Rate||5-Year Growth Rate||P/E Ratio|
*Stock price used is January 11, 2019
**Forward EPS is derived from Yahoo-Finance average analyst estimates for 2019
1.) Dividend Yield: CVS takes the cake here with the dividend yield. Both are over the S&P 500 yield on average (currently at 2.07%). However, CVS has 59 basis points higher than Walgreens.
2.) Price to Earnings Ratio: This ratio will showcase if the company has signs of undervaluation. Based on the average analyst expectation and stock price, both show signs of being undervalued relative to the market, which the S&P 500 has a P/E ratio of 19.91. However, similarly, CVS takes the slice here, as they are less than Walgreens.
3.) Payout Ratio: We usually like to see between 40% and 60%, which means that we like to see companies give back to the shareholders but also keep enough earnings to grow the business. In this case, both companies have comparable ratios, and there is no clear winner, except to say that both of them have great ratios, leaving ample room for dividend growth and investment.
4.) Dividend Growth: It’s no secret, CVS did not grow their dividend in 2018 due to the debt levels on their balance sheet from the acquisition. Walgreens is a dividend aristocrat, in fact, therefore – their dividend streak has continued for quite some time. However, even with CVS putting a halt on the growth, their dividend growth rate is… better than WBA’s? How interesting is that? That’s due to CVS having dividend increases of 17%, 21%, and 27%, prior to halting their dividend increases. Walgreens obviously continues the streak, but CVS brings the force when they do increase. Split game here.
There is no question that CVS will be showing incredible growth in all forms from their income statement in 2019, due to the Aetna acquisition. However, not sure when they’ll have the debt fully paid down, but the full maturity schedule is here. They have committed to being at 3.5x debt to EBITDA by 2 years after the close. Therefore, I anticipate by 2020 or early 2021, to have our first increase back to their dividend.
Walgreens, on the other hand, has a modest dividend growth rate and a modest yield. They are strong but don’t have any metrics that fully pop out, at you. I would be very interested if their yield swells to 3%, as I would be interested at that point. Reason being is a yield of 3%, and a dividend growth rate of close to 6.5-7.0% represents a 10% dividend compound factor, which is much better than the approximate 9% that they are at right now.
In concluding the article, CVS has a few years before I expect them to increase their dividend, and Walgreens has a bit of a price gap from where I’d like to see them. I would be much more inclined to invest into CVS, due to the major deal with Aetna, and future dividend growth rates would be expected to be significant.
What does the community think? Any other thoughts or pieces to add? I appreciate the stop by and always – good luck and happy investing!
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