Walgreen Co. Down 13% After Deciding to Keep U.S. Tax Domicile

by Ryan Fitzwater, Director of Research, The Oxford Club
StockGrader

Walgreen Co. (NYSE: WAG) has made it official and decided to buy out the remaining 55% of Europe’s largest pharmacy chain, Alliance Boots. The full takeover will cost Walgreen Co. $15 billion.

But it isn’t the big-price-tag deal that has shares spiraling downward. The deal itself is good news to many.

The reason the stock is down over 13% today is due to investors' hopes that the U.S.’s largest drugstore chain would use the deal to move its tax domicile overseas - a move better known as “tax inversion.”

Tax inversion - the relocation of a company’s headquarters to a low-tax nation - has become a hot topic in Washington. Politicians are pointing to the billions in tax revenue lost when corporations relocate overseas.

Here’s an idea: Lower the insane corporate tax rate of 35% here in the States and you might avoid this conversation entirely. Then again, that might be too simple and straightforward of an approach for legislators.

And it isn’t just congressmen taking this silly position. President Obama has been up at his podium as well, condemning tax inversion deals that have been sweeping the nation this year.

Just yesterday, Obama noted that he was considering steps to curb such deals.

Walgreen Co.’s tax inversion retreat signals the third major possible collapse of such deals in the past few months. And the majority of this has to do with pressure from politicians.

Walgreen Co.’s CEO, Greg Wasson, stated yesterday “the company concluded it was not in the best long-term interest of our shareholders to attempt re-domicile outside the U.S.” And the company noted it was “mindful of the ongoing public reaction to a potential inversion and its role as an iconic American consumer retail company with a major portion of its revenues derived from government-funded reimbursement programs.”

After reading these statements it is crystal clear that political pressure guided Walgreen’s decision to stay headquartered in the U.S. And I don’t buy that it is in “the best long-term interest for our shareholders” for one second. Washington is strong-arming U.S. companies and interfering with managerial decisions that could actually improve a business and boost profits for shareholders.

But corporate relocation aside, with Walgreen Co. shares down over 13% this morning after severely outperforming its industry group over the last 12 months, this could be an excellent opportunity to pick up a solidly performing stock at a discounted price. Let’s dig into the company’s financials and see how they perform on our Investment U Fundamental Factor Test:

Earnings-per-Share (EPS) Growth: Walgreen Co. saw a 15.15% increase in EPS in the most recent quarter. Double-digit earnings growth is definitely a positive sign.

Price-to-Earnings (P/E) Ratio: Currently the drugstore industry is averaging a P/E ratio of 24.76. Walgreen Co. is trading at a more attractive price compared to its peers, with a P/E ratio of 21.80.

Debt-to-Equity Walgreen Co.’s debt-to-equity of 21.07% is well below the industry average of 30.88%. Less financial leverage compared to its peers gives us another check mark.

 Free Cash Flow Per Share Growth: And the streak ends. In the third quarter, Walgreen Co. saw an 8.10% drop in free cash flow compared to the same period last year. We want to see free cash flow growing, not shrinking.

Profit Margins Walgreen Co.'s profit margins of 3.72% are just barely below the industry’s average of 3.97%. While this is just a sliver of a difference, we have to stick to our discipline and give the company a negative mark here.

 Return on Equity Just like profit margins, Walgreen Co. barely missed the cut. Its return on equity of 14% is just one point from its peers who are averaging 15.03%.

*Why did we look at these specific metrics? Find out more here.

Fundamental Factor Test Score

C: Hold (Hits just three key metrics)

Please note that our fundamental factor checklist is just the first step in performing your own due diligence. There are many other factors you should consider before investing. That's why The Oxford Club offers over a dozen newsletters and trading advisories all aimed at helping investors grow and maintain their wealth. For more details, click here.

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