Bulls who backed the struggling pharmacy Rite Aid Corporation (NYSE:RAD) last year have been rewarded. This pharmacy’s turnaround efforts proved the naysayers wrong. Rite Aid is priced like a profitable company now, although by one metric it’s still a major bargain. Now investors wonder whether this pharmacy stock’s rally can continue. Drug industry trends and other pharmacies’ recent moves could help answer this question.
Macro Trends
CVS Caremark Corporation (NYSE:CVS), Walgreen Company (NYSE:WAG), and Rite Aid Corporation (NYSE:RAD) can all benefit from health care macro trends. An older population could result in more prescription drug sales. Retail health clinics could serve even more patients, and Accenture Plc (NYSE:ACN) just released a report about this topic. The Affordable Care Act could mean more patients visiting physicians, which could also result in more prescription drug sales.
There’s also one macro factor that could hurt the pharmacies. Patents on many high profile, expensive drugs have expired in the last few years, and investors often call this situation the patent cliff. The patent cliff explains why the pharmacies have been able to sell more lucrative generic drugs, although it also explains the pharmacies’ lackluster overall sales. When the patent cliff ends, the pharmacies’ margins could drop.
Revenue
Store closures and the switch to generic drugs have both meant lower revenue for Rite Aid Corporation (NYSE:RAD). Both trends remained prominent in May 2013. Rite Aid reported that it has reduced its store count by 37 over the last year. The pharmacy reported -2.7% pharmacy same store sales growth for May, but it also noted that this figure would have risen 1% without recent generic introductions.
The switch to generics has also limited revenue growth for CVS Caremark Corporation (NYSE:CVS) and Walgreen Company (NYSE:WAG) recently. CVS reported -0.1% sales growth last quarter, and Walgreen’s total sales were basically unchanged. Facing two competitors that effectively held the line on sales while new generic drugs appeared, Rite Aid Corporation (NYSE:RAD)’s -9.7% sales growth last quarter doesn’t look very attractive. CVS and Walgreen currently trade near their annual highs even with relatively flat recent sales, so other factors do come into play for the pharmacies.
Retail Clinics
A retail clinic staffed by nurse practitioners can offer basic health care, but Rite Aid offers its store visitors remote access to physicians and specialists as well. The NowClinic website explains that patients can talk to OptumHealth’s medical staff online at Rite Aid Corporation (NYSE:RAD) stores, and the OptumHealth physicians can prescribe medication remotely. OptumHealth is a subsidiary of the major health insurance provider UnitedHealth Group Inc. (NYSE:UNH).
Walgreen Company (NYSE:WAG) has also been improving its clinics. Back in April, CBS News‘ Michelle Castillo reported that Walgreen clinics would offer treatments for chronic conditions as well as additional preventative care services. These expanded services could help Walgreen regain even more of the customers it lost to Rite Aid Corporation (NYSE:RAD) and CVS Caremark Corporation (NYSE:CVS) last year after it couldn’t reach a deal with Express Scripts Holding Company (NASDAQ:ESRX). Once again, Walgreen reported that more of its customers came back in May 2013. Walgreen also reported 3.8% pharmacy same store sales growth for the month.
Valuation
One statistic in particular makes the best case for Rite Aid bulls. This pharmacy still hasn’t matched the profit margins of its rivals, so its price to sales ratio remains extremely low. Rite Aid Corporation (NYSE:RAD) currently has a P/S of just 0.11, which is far below Walgreen Company (NYSE:WAG)’s P/S of 0.67 and CVS Caremark Corporation (NYSE:CVS)’ P/S of 0.59. There’s no guarantee that Rite Aid can become as profitable as Walgreen or CVS, but Rite Aid still has lots of room to become more efficient.
Takeaway
Rite Aid may become a smaller and more profitable pharmacy. Even with help from macro factors that could boost future prescription drug sales, Rite Aid Corporation (NYSE:RAD)’s sales still look like they’re headed downward. On the other hand, generic drug sales and turnaround initiatives could produce more margin improvements for this pharmacy. This turnaround story doesn’t look like it’s over, but a company with cheap stock and a rising profit margin can also qualify as a value trap. Rite Aid needs to show better sales trends before it becomes an appealing long term investment.
Eric Novinson owns shares of CVS Caremark (NYSE:CVS). The Motley Fool recommends Accenture, Express Scripts, and UnitedHealth Group. The Motley Fool owns shares of Express Scripts.
The article Is This Pharmacy’s Turnaround Done? originally appeared on Fool.com.
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