Walgreens Boots Alliance: A Top-Tier Dividend Aristocrat For 2020

At Sure Dividend, we strongly urge investors looking for high-quality dividend growth stocks to consider the list of Dividend Aristocrats. These are 64 companies in the S&P 500 Index, which have each raised their dividends for a minimum of 25 consecutive years.

The Dividend Aristocrats have proven business models, with established track records of growth. We believe they are likely to continue raising their dividends for many years, due to their competitive advantages and growth potential.

Even better, investors can buy individual Dividend Aristocrats when they are undervalued. For example, we believe Walgreens Boots Alliance (WBA) is a significantly undervalued Dividend Aristocrat. Walgreens has hit a rough patch, but we believe future earnings-per-share will return to growth, thanks to the investments the company is making. With a low valuation multiple, a 3.5% dividend yield, and a long history of dividend growth, Walgreens is one of our top-ranked Dividend Aristocrats to buy now.

Walgreens Fair Value

Business Overview and Recent Events

Walgreens Boots Alliance is a pharmacy retailer with over 18,000 stores in 11 countries. The stock currently has a $47 billion market capitalization. Walgreens has increased its dividend for 44 consecutive years, earning a place on the Dividend Aristocrats list.

Dividend Growth of Walgreens

KKR & Co., a private equity and real estate investment firm that specializes in leveraged buyouts, has formally approached Walgreens about a possible buyout. Following this announcement, analysts estimated that somewhere between $75 and $77 might be the price needed to take Walgreens private. If this leveraged buyout were to be completed, it would be the largest in history. This would be at least a 40% premium to the stock’s most recent closing price, although a go-private deal is not a certainty.

In the meantime, the company continues to post mixed financial results. On January 8th, Walgreens reported financial results for the first fiscal quarter of fiscal 2020. Sales increased 1.6% to $34.3 billion for the quarter, an increase of 2.3% on a constant-currency basis. The Pharmaceutical Wholesale segment led the way with 5.2% growth, followed by the Retail Pharmacy USA segment with 1.6% comparable sales growth for the quarter. These were strong top-line performances for the company.

However, Walgreens continues to struggle on the bottom line. Adjusted earnings-per-share declined 6% last quarter year-over-year, due to continued investment in strategic initiatives. Walgreens is investing heavily in new partnerships and other strategic areas to drive growth. For example, last quarter Walgreens created a German wholesale joint venture with McKesson, and also formed a group purchasing organization with Kroger to cut costs throughout the supply chain.

Walgreens expects flat adjusted EPS in fiscal 2020 versus fiscal 2019. While the upcoming fiscal year will likely result in flat profits, due to strategic investments, we believe these investments will pave the way for a return to future growth.

Competitive Advantages and Recession Performance

Walgreens’ competitive advantage is its leading market share. Its robust retail presence and convenient locations encourage consumers to use Walgreens instead of its competitors. This brand strength means customers keep coming back to Walgreens, providing the company with stable sales and growth. Consumers are unlikely to cut spending on prescriptions and other healthcare products even during difficult economic times which makes Walgreens very resistant to recessions.

Walgreens’ adjusted earnings-per-share declined by just 7% during 2009 and the company actually grew its adjusted earnings-per-share from 2007 through 2010. This was a highly impressive financial performance for a retailer during the Great Recession, as retailers are usually more exposed to economic downturns than other industries.

Walgreens has a positive long-term growth outlook. Retail pharmacy has proven to be resistant to e-commerce and will benefit from the aging U.S. population and rising demand for healthcare. The company also raised its cost-cutting target to over $1.8 billion by fiscal 2022. Walgreens already announced it will close 200 Boots stores in the U.K., and announced the closure of 200 U.S. stores.

Revenue of Walgreens

We maintain a five-year outlook which calls for 5% annual adjusted EPS growth over the next five years. In the meantime, the stock rewards investors with a high dividend yield. And, long-term investors have the opportunity to buy this quality dividend growth stock at a discount.

Valuation and Dividend Analysis

Walgreens has an attractive current dividend yield of 3.5%, which is a high yield in relation to the broader market. For example, the S&P 500 Index currently has an average dividend yield of 1.7%, the result of record-high stock prices. This means Walgreens stock provides more than double the dividend income of the S&P 500.

Importantly, Walgreens’ dividend appears highly secure. Based on expected fiscal 2020 adjusted EPS of $6.00, the current dividend of $1.83 per share represents a forward payout ratio of 30%-31%. This is a fairly low payout ratio which leaves plenty of room for continued dividend increases each year, even if EPS stagnates for another year or two.

Dividend-Yield evolution of Walgreens

In addition, Walgreens stock appears significantly undervalued. The company is expected to generate adjusted earnings-per-share of $6.00 in fiscal 2020. Based on this, the stock has a price-to-earnings ratio of just 8.6. Shares are currently trading well below our fair value P/E multiple of 12.0. We believe this is a reasonable valuation estimate for a highly profitable company with a long history of earnings and dividend growth.

As a result, we believe Walgreens shares are trading at a compelling valuation, and that expansion of the P/E multiple could meaningfully boost shareholder returns in the years ahead. For example, if Walgreens’ P/E multiple rises to 12 over the next five years from the current level of 8.6, the corresponding multiple expansion would boost returns by nearly 7% per year.

Combined with 5% annual adjusted EPS growth and the 3.5% dividend yield, total shareholder returns could reach 15%-16% through 2025. This shows the benefit of buying high-quality dividend growth stocks when they are undervalued.

Final Thoughts

Walgreens is struggling to adapt to the changing retail landscape. Its current investments will continue to take a bite out of earnings growth, at least through 2020. However, the company continues to grow revenue and is likely to continue to generate sales growth from the favorable trend of the aging U.S. population. Earnings growth should follow once the period of elevated investment subsides, and also because of share repurchases. In the meantime, Walgreens stock is undervalued, and rewards shareholders with a secure 3.5% dividend yield along with annual dividend increases. This makes Walgreens stock one of our top-ranked Dividend Aristocrats.