Why Walgreen's Stock Is Worth Owning
The next selection for the newly launched Inflation-Protected Income Growth Portfolio is drugstore titan Walgreen (NYS: WAG) . Well-known for marrying convenience with service and well-staffed, knowledgeable pharmacies, Walgreen prides itself on being available where and when its customers need it.
The company has paid a dividend for 80 straight years, and it has paid higher amounts each year for the past 37. That's a commendable track record. Even better, that shareholder-friendly dividend policy predates the Bush dividend tax cuts by decades, making it unlikely that it will change just because those cuts are slated to expire. And with a respectable payout ratio of 45%, it has considerable coverage even if things do go bad.
Why it's worth owning in the iPIG Portfolio
To earn a spot in the portfolio, a company has to pass a series of tests related to its dividends, its balance sheet and valuation, and how it fits from a portfolio diversification perspective.
Dividends:
Payment: The company's annual dividend currently sits at $1.10 a share, a yield of about 3% based on Friday's closing price.
Growth history: The company has paid higher dividends every year for the past 37 and has an overall dividend history that dates back 80 years. That makes it a dividend payer during the Great Depression and World War II and a company that was able to continue growing its payout even as the financial market imploded in the last decade.
Reason to believe the growth can continue: With a payout ratio of 45%, the company retains more than half of its income to reinvest for future growth. Additionally, since the company's cash flow statement indicates that its earnings are covered by cold hard cash , there's little risk that a near-term cash crunch will derail those plans.
Balance sheet and valuation:
Balance sheet: A debt-to-equity ratio of 0.3 indicates that the company does use debt but sparingly, and it certainly hasn't overleveraged itself to the point where a near-term financial hiccup would derail it.
Valuation: By a discounted cash flow analysis, the company looks to be worth around $36.5 billion , making its recent market price of $34.5 billion look reasonable. Of course, there's some risk involved. For instance, the company's recent sparring with pharmacy benefits manager Express Scripts (NAS: ESRX) cost Walgreen around $4 billion in annual revenue . As companies and individuals look to cut health-care spending, similar such battles may break out again.
Diversification fit:
The previous picks for the portfolio included:
A provider of staple foods
While Walgreen does rely on fellow iPIG portfolio pick Teva Phamaceutical (NYS: TEVA) along with other pharmaceutical manufacturers as a trip driver, it does sell merchandise beyond just medication. Still, the overlap means that ongoing changes to the health-care industry could affect both Teva and Walgreen (and thus this portfolio). But given Walgreen's strong dividend track record and its position as seller of items beyond just pharmaceuticals, it's a trade-off the iPIG portfolio is willing to make as part of the balancing act needed to manage across risks in investing.
What are the risks?
During its battle with Express Scripts, Walgreen's lost customers to other pharmacies that were more willing to work with Express Scripts. Archrival CVS (NYS: CVS) was one of the biggest winners. Given the inertia involved in pharmaceutical purchases (it may take effort by you, your doctor, and your pharmacy to move a prescription), those customers may be tough for Walgreen to win back from its nemesis.
Also, other retailers have been wising up to the benefit of offering such repeat trip drivers as prescription medications, potentially eating into Walgreen's customer pool. For instance, when Wal-Mart (NYS: WMT) came out with the $4 price point for generic prescriptions, it was a blatant attempt to woo customers from drugstores such as Walgreen into that discount retailer.
What comes next?
When the Fool's disclosure policy allows, I plan to buy Walgreen stock for the Inflation-Protected Income Growth portfolio, as long as its share price remains below $38. I expect to invest around $1,500 in the selection, giving it a 5% allocation in the portfolio, with 45% of the portfolio still remaining cash. Watch my article feed for details of the next pick, which is coming soon.
Also, to score the performance of this pick, I'm making an outperform CAPScall on the stock at Motley Fool CAPS, putting my All-Star ranking on the line along with the plan to invest cold, hard cash.
The article Why Walgreen's Stock Is Worth Owning originally appeared on Fool.com.
Chuck Saletta owns shares of Teva Pharmaceutical. The Motley Fool owns shares of Express Scripts. Motley Fool newsletter services recommend Express Scripts. 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.
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