Value-focused investors are always on the hunt for stocks that are priced below their intrinsic value. One such stock that merits attention is Rite Aid Corp (RAD, Financial). The stock, which is currently priced at 0.84, recorded a gain of 19.21% in a day and a 3-month decrease of 56.64%. The stock's fair valuation is $10, as indicated by its GF Value.
Understanding GF Value
The GF Value represents the current intrinsic value of a stock derived from our exclusive method. The GF Value Line on our summary page gives an overview of the fair value that the stock should be traded at. It is calculated based on three factors:
- Historical multiples (PE Ratio, PS Ratio, PB Ratio and Price-to-Free-Cash-Flow) that the stock has traded at.
- GuruFocus adjustment factor based on the company's past returns and growth.
- Future estimates of the business performance.
We believe the GF Value Line is the fair value that the stock should be traded at. The stock price will most likely fluctuate around the GF Value Line. If the stock price is significantly above the GF Value Line, it is overvalued and its future return is likely to be poor. On the other hand, if it is significantly below the GF Value Line, its future return will likely be higher.
Unveiling the Risks
However, investors need to consider a more in-depth analysis before making an investment decision. Despite its seemingly attractive valuation, certain risk factors associated with Rite Aid should not be ignored. These risks are primarily reflected through its low Altman Z-score of 1.67. These indicators suggest that Rite Aid, despite its apparent undervaluation, might be a potential value trap. This complexity underlines the importance of thorough due diligence in investment decision-making.
Decoding the Altman Z-score
Before delving into the details, let's understand what the Altman Z-score entails. Invented by New York University Professor Edward I. Altman in 1968, the Z-Score is a financial model that predicts the probability of a company entering bankruptcy within a two-year time frame. The Altman Z-Score combines five different financial ratios, each weighted to create a final score. A score below 1.8 suggests a high likelihood of financial distress, while a score above 3 indicates a low risk.
Company Overview
Rite Aid Corp is a large retail drugstore chain in the United States. The company reports via two segments: retail pharmacy and pharmacy services. The retail pharmacy segment generates revenue primarily through the sale of prescription drugs, along with an assortment of merchandise that includes over-the-counter medications, health and beauty aids, personal care items, cosmetics, household items, food and beverages, greeting cards, seasonal merchandise, and numerous other everyday consumables. The pharmacy-services segment relates to EnvisionRx, a fully owned subsidiary that operates as a pharmacy benefit management provider offering a broad range of pharmaceutical services.
Examining Rite Aid's Altman Z-Score
A dissection of Rite Aid's Altman Z-score reveals Rite Aid's financial health may be weak, suggesting possible financial distress:
The Retained Earnings to Total Assets ratio provides insights into a company's capability to reinvest its profits or manage debt. Evaluating Rite Aid's historical data, 2021: -0.57; 2022: -0.70; 2023: -0.90, we observe a declining trend in this ratio. This downward movement indicates Rite Aid's diminishing ability to reinvest in its business or effectively manage its debt. Consequently, it exerts a negative impact on its Z-Score.
The EBIT to Total Assets ratio serves as a crucial barometer of a company's operational effectiveness, correlating earnings before interest and taxes (EBIT) to total assets. An analysis of Rite Aid's EBIT to Total Assets ratio from historical data (2021: 0.02; 2022: -0.05; 2023: -0.09) indicates a descending trend. This reduction suggests that Rite Aid might not be utilizing its assets to their full potential to generate operational profits, which could be negatively affecting the company's overall Z-score.
Conclusion
Despite Rite Aid's seemingly attractive valuation, the company's financial health may be weak. Its declining Retained Earnings to Total Assets and EBIT to Total Assets ratios, along with a low Altman Z-score, suggest potential financial distress. Therefore, Rite Aid might be a potential value trap, and investors should exercise caution.
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