Fundamentals, not M&A, could drive Rite Aid shares back up, analyst says

NEW YORK — A takeover by Walgreens is "highly unlikely," but Rite Aid shares could stay past the $2 mark due to the company's fundamentals, an analyst said Thursday.

Guggenheim Partners analyst John Heinbockel wrote in a report that he had increased his price target for Rite Aid shares from $1.60 to $2.25 due to projected higher EBITDA, 3% to 4% growth in the Camp Hill, Pa.-based chain's core business, a $57 million benefit from generics and a $35 million benefit from the continued dispute between Walgreens and pharmacy benefit manager Express Scripts. Heinbockel also said the Walgreens-ESI dispute could strengthen Rite Aid's Wellness+ loyalty card program as an increase of 6 million scripts and 1 million incremental pharmacy customers would increase participation in the program by 2% to 48 million.

"Our optimism stems entirely from fundamentals and not from potential M&A," Heinbockel wrote. "In our view, a strategic transaction is highly unlikely. This largely reflects the absence of logical buyers at acceptable prices. We find it difficult to make the case that WAG should spend $8 billion or more to acquire RAD."

Rite Aid's shares hit a four-year high of $2.06 Wednesday following the release of a report by Credit Suisse analyst Edward Kelly speculating that Walgreens "may" seek to acquire Rite Aid. A similar report in November 2011 by analysts at Susquehanna Financial Group had a similar effect. Kelly himself put the odds of an acquisition at 1-in-3.

But Heinbockel wrote there would be numerous hurdles to the merger. For example, Walgreens has often paid extra for good locations, but may be "uncomfortable" with Rite Aid's real estate. Meanwhile, upgrading existing stores would cost anywhere between $1 billion and $2 billion, in addition to the $8 billion purchase price. Furthermore, Walgreens is relatively inexperienced when it comes to large-scale acquisitions and integrations, compared with CVS/pharmacy, which has successfully integrated more than 1,000 Eckerd stores, almost 1,000 SavOn-Osco stores and 400 Long's stores.