Announced mergers do not always become completed mergers. Deals are often subject to regulatory approval, shareholder votes and changes in circumstances in the time between when a deal is announced and when it is expected to close.
In this climate, who is to say that Action Alerts PLUS holding Walgreens Boots Alliance's (WBA) $17.2 billion (including debt) bid to take over Rite Aid (RAD) is immune from similar challenges?
This year has already seen mergers challenged due to a mix of regulatory concerns. Staples' (SPLS) $6.3 billion bid to acquire Office Depot (ODP) has been challenged on antitrust grounds, though there is evidence that the deal could go through. Meanwhile, Pfizer's (PFE) plans to acquire Action Alerts PLUS holding Allergan (AGN) in a $150 billion deal were shot down last week, following new regulations from the U.S. Treasury Department to prevent corporate tax inversion deals.
"I now think that Rite Aid is being run down while this deal waits clearance," Jim Cramer told Real Money. "I think Walgreens' stock represents the worst possible scenario: no Rite Aid to fix up and no chance for the company to expand away from it."
Both Walgreens and Rite Aid reported first-quarter earnings last week and were roughly in line with analyst targets. However, an analyst team at Credit Suisse took a slightly more optimistic outlook on Walgreens and raised its price target to $95 from $92; meanwhile, it said Rite Aid's performance was "respectable." Credit Suisse has Outperform ratings on both companies.
With respect to Walgreens' plans to acquire Rite Aid, the Illinois-based company will have to divest itself of stores to avoid regulatory scrutiny. In a presentation released in November, Walgreens said its contract provides for divestments up to 1,000 stores, though it expects that the actual number will be less than 500. Either way, it's no easy task as Walgreens has to find "legitimate buyers" at "competitive pricing," which means no fire sales and no closing stores, said Jack Mohr, research director of Action Alerts PLUS.
Walgreens is currently the largest retail pharmacy in the U.S. and Europe, with 13,100 stores in over 11 countries. Its second competitor is CVS Health (CVS), with 9,600 stores in the U.S. and Brazil. Rite Aid comes in third, which means a merger would put even more distance between frontrunner Walgreens and CVS.
Mohr said that some of the concerns of price increases resulting from the merger can be dismissed as retail pharmacies have been absorbing prices instead of raising prices in light of reimbursement pressures. Despite their scale, retail pharmacy behemoths such as CVS and Walgreens have had difficulty renegotiating drug prices with third party pharmacy benefit managers.
Looking at the broader retail offerings in pharmacies, Mohr said that there is enough competition elsewhere from big box retailers to still compete on prices for other goods.
The focus of the Federal Trade Commission's investigation will be on how Walgreens divests itself from stores.
During an earnings call with analysts last week, Walgreens CEO Stefano Pessina said that the regulatory approval process is moving along in its expected timeline. During the question and answer portion of the call, Pessina acknowledged that the process had been "very long" and that Walgreens had provided "many, many documents."
"The process is developing in an absolute normal way and so we hope that, sooner or later, we will have an indication on where we are, but of course, we cannot put a day or even a month for this indication because it depends very much on how deeply the FTC wants to analyze all of the documents that we have given," Pessina said.
The reason for the enhanced sensitivity on Walgreens divestitures could be due in part to complications from Albertson's merger with Safeway two years ago, Mohr said. Under the terms of that transaction, Safeway had to divest itself of 168 stores. It ultimately sold 146 stores to Haggen, which filed for Chapter 11 protection a year later and closed 33 stores -- effectively negating some of the intended effect of the divestitures.
The terms of the merger agreement state that the deal has an Oct. 27, 2016, termination date, which is exactly one year after the deal was announced but the deal could be extended by three months.
