I discuss how the overall market has been overvalued and due for a pullback for the past few articles. We finally got a decent retreat, but I think more is still expected. For the past two weeks, we have seen a withdrawal of 5.21% since the all-time high of 4,545.85 for the S&P 500. Even though there was a slight reduction in price in the overall market, there were still undervalued stocks during the market’s all-time high. This pullback helps lower these undervalued stocks to an even better price point. This article will cover an undervalued stock that went lower with the market this past two weeks, which allows us to open a position or add to our current position. The stock is Walgreens Boots (WBA), which is an undervalued Dividend Aristocrat.
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Overview of Walgreens Boots Alliance (WBA) – A Dividend Aristocrat
Walgreens Boots Alliance, Inc. (WBA) is a holding company headquartered in Deerfield, Illinois that owns the retail pharmacy chains Walgreens and Boots, as well as several pharmaceutical manufacturing, wholesale, and distribution companies. WBA has three divisions, which are Retail Pharmacy USA (Walgreens and Duane Reade), Retail Pharmacy International (Boots and other retail operations internationally), and Pharmaceutical Wholesale (Alliance Healthcare). The Company has close to 14,000 stores in 9 countries. In the USA, 78% of the US population lives within 5 miles of a Walgreens store. Total revenue was $139,537 million in 2020 and $146,172 million in the LTM.
Walgreens Dividend History, Growth, and Yield
WBA is up 5.98% year to date as of this writing. So, while most stocks have been up to over 10% this year, the S&P 500 is up 18.66%, WBA has lagged the market a lot this year. However, there is much room for upside potential, and we will talk about this next.
We will now look at WBA dividend history, its growth, and yield. We will then determine if it’s a good buy at the current price.
WBA has been growing its dividend for 46 consecutive years, and the Company is part of the Dividend Aristocrats List, which are companies that have paid a rising dividend for 25 or more straight years.
In the last ten years, WBA has had an average dividend growth rate of 11.5%. I love it when companies grow their dividend higher than the inflation rate, as this will provide me with buying power for years to come. WBA’s past 5-year dividend growth average is 5.8%, much lower than its ten-year average but higher than the inflation rate.
So, the dividend growth rate has slowed down compared to its last 10-year average. This slowdown is concerning as a dividend growth investor. We would like to see companies grow their dividends faster than inflation and keep up with that higher dividend growth history as dividend growth investors. The slower 5-year dividend growth shows me that earnings and overall Company growth are also slowing. However, as long as the dividend increase on average of 3.3% a year or higher, I am a happy dividend investor.
Also, this is a critical point about the Company’s dividend that I think is very significant. Walgreens continued to pay its dividend during the most challenging period in the last 100 years. Most businesses and industrials were cutting or suspending their dividends payments the previous year during the COVID-19 pandemic; WBA continued to pay its dividend. The Company increased its dividend by 2.2% in July of last year and 2% in July of this year. That is very impressive. That tells me everything I need to know about the dividend policy and dividend safety focus, but I do not like the slower growth compared to its five-year average.
The Company has an excellent dividend yield of 4.03% as of this writing. This dividend yield is a good starting yield for those dividend growth investors—especially those investors who are leaving the bond market looking for higher yields. On the other hand, income-driven investors may want a 4.5% yield or higher. So, WBA does not meet those criteria, but it is close to it.
WBA’s current dividend yield is 104 basis points higher than its own 5-year average dividend yield of 3.03%. I like to look at this metric because it gives me a good idea if a company I am researching is undervalued or overvalued based on the current and 5-year average yield. This is because price and yield correlate with one another. If the price goes higher, then the yield goes lower. Vice versa as well.
Is the dividend safe? We should always ask this question if we are looking for an undervalued dividend growth stock to invest in. Sometimes undervalued dividend stocks can present us with a “value trap,” and the stock price can continue to head lower.
This is why it is essential to look at the dividend payout based on earnings and free cash flow (FCF). Analysts predict that WBA will earn $4.75 per share for the Fiscal Year (FY) 2021. Analysts are pretty accurate when predicting WBA futures earnings. The Company is expected to pay out $1.88 per share in dividends for the entire year. Using the dividend payment gives us a payout ratio of 39.5% based on earnings. Having a 39% dividend coverage with a dividend yield of over 4.0% is very safe. On a free cash flow basis, Walgreens has a dividend payout ratio of 39.6%. Thus, the dividend is well covered in both earnings and free cash flow.
Capital expenditures have been reasonable for the past few years and are not getting out of control. The Company spent $2,307 million in 2019 and spent $1,297 million for FY2020. All while they were increasing free cash flow each year. For example, Free cash flow has grown from $5,484 million last year to $6,396 million TTM. Thus, no concern about the spending for WBA.
Walgreens Revenue and Earnings Growth / Balance Sheet Strength
This section will look at how well WBA has grown earnings and revenue throughout the years. When evaluating a company, these two metrics are at the top of my list to consider. Without revenue growth, a company can’t have sustainable earnings growth and continue paying a rising dividend.
For the past ten years, WBA has had revenue increasing at a Compound Annual Growth Rate (CAGR) of 7.6%, which is reasonable considering how big WBA is. Net income, however, tells a different story. Net income has decreased during these ten years at a pace of (-1.9%).
Earnings, however, have seen a much better growth rate when compared to net income. EPS has grown 6.7% annually for the past ten years. And over the past five-year, EPS has had a CAGR of 0.4%. So, the Company’s growth has slowed down over the past five years. We see now why the dividend growth has also slowed down. This tells me that the management team is being conservative with the dividend growth policy, which is a good thing, in my opinion.
Last year’s EPS decreased from $5.99 per share in 2019 to $4.74 per share for 2020, a decrease of 21%. This decrease in earnings would usually be very concerning. However, considering the challenging year because of the COVID-19 pandemic, it had pretty good compared to most companies. Also, analysts expect WBA to make $4.81 per share for the fiscal year 2021, a 1.5% increase compared to 2020, which is an improvement.
Also, The Company has a solid balance sheet. Currently, WBA has an S&P credit rating of BBB, which is investment grade. In addition, the Company has a long-term debt/cap ratio of 48%, which is very good in my book. And the interest coverage ratio of 2.9, which is good. Thus, the Company looks to be in an excellent position and will continue to cover the dividends and pay its debt.
One of the valuation metrics that I like to look for is the dividend yield compared to the past few years’ histories. I also want to look for a lower price-to-earnings ratio (PE) based on the past 5-year or 10-year average. Furthermore, I like to use the Dividend Discount Model (DDM). I use a DDM analysis because a business is ultimately equal to the sum of the future cash flows that that business can provide.
Let’s first look at the PE ratio. WBA has a PE ratio of 9.9X based on Fiscal Year (FY)2021 earnings of $4.81 per share. The PE multiple is very low compared to the past 5-year PE average of 11.7. If WBA were to revert to a PE of 11.7, we would obtain a price of $56.27 per share.
Now let’s look at the dividend yield. Like I mentioned, the dividend yield currently is 4.03%. Based on WBA’s own 5-year dividend yield average of 3.03%, there is a potential upside. For example, if WBA were to return to its dividend yield 5-year average, the price target would be about $57.11.
The last item I like to look at to determine a fair price is the DDM analysis. I factored in a 10% discount rate and a long-term dividend growth rate of 4%. I use a 10% discount rate because of the low current dividend yield. The projected dividend growth rate is lower than its 10-year average but in line with its past 5-year average. This gives us a fair price target of $33.11 per share.
If we average the three fair price targets of $56.27, $57.11, and $33.11, we obtain a reasonable, fair price of $48.83 per share. This gives WBA a possible upside of 3.0% from the current price of $47.38. Today, WBA is a slightly undervalued Dividend Aristocrat.
Conclusion on Walgreens Boots Alliance (WBA) – An Undervalued Dividend Aristocrat
WBA is not a growth stock that will make you rich in 8 years if you put all your money into this stock. However, Walgreens is a solid, stable stock that will provide you with about 8% – 10% annual return for the foreseeable future. The Company has an excellent dividend yield and continues to grow. Walgreens’ turnaround efforts are going well, and analysts now have strong confidence that it will grow about 4% – 5% over time. WBA is an excellent stock for investors looking for a high-yield defensive Dividend Aristocrat that is undervalued today.
Disclosure: Felix is long WBA
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My name is Felix Martinez, and I am a Dividend Growth Investor who has invested in dividend growth stocks for the past seven years. I also run a YouTube channel called FiscalVoyage. I have written for SeekingAlpha.com as well as SureDividend.com. I focus on undervalued dividend growth stocks with capital return and dividend income potential. Make sure to follow me on my YouTube Channel. See you there.