Rite Aid Post-Mortem

In my original post I said I’d take a flyer on RAD. Boy howdy do I wish I’d gone over my usual checklist! WBA and RAD announced new deal terms.

I assumed the following about any potential new deal:

  1. The FTC would be more spineless than it has been at the tail-end of an outgoing presidency.
    1. In the worst case a postponement would force RAD and WBA to push the merger out by 3-6 months.
      1. This did happen, but it could be pushed out even further with the new terms and need to find either a second buyer or a stronger lead than FRED.
    2. The CEO of Rite Aid would not suffer the indignity of further reducing the buyout price.
      1. It turns out RAD management was more desperate than I had thought to sell. I guess the CEO is still waiting on his $25m cash payday.
      2. Operationally RAD is on the ropes.
    3. At most WBA would reduce their offer price to $8.00.
      1. Instead they agreed to a range between $6.50-7.00 depending on how many stores needed to be sold. Kudos to WBA management for negotiating RAD down… twice..
    4. Valuation was irrelevant.

#4 was my most cardinal sin. These are some of rules which I broke by investing in RAD.

  1. M&A bets must be founded on attractive valuations.
    1. RAD failed this test.
  2. Agency risk – is management aligned with shareholders?
  3. No edge in pharmacy companies. No industry knowledge.
    1. This makes the importance of “stupid cheap” valuations even more important to the process.
  4. Short-term rent-seeking investment is generally not a good idea.

There is probably money to be made in RAD, but looking with fresh eyes, I simply don’t have comfort with the valuations for RAD as a standalone investment at $5.72. Furthermore, a 14-22% spread to the new deal price is not enough to warrant the downside risk to $4.

Special situations can be great, but they have to provide upside optionality founded upon attractive undervaluation. I still feel OK about TSL trading at 6x EV/EBITDA. However, I did sell a bit of TWX today.

Investors have been laboring under the notion that Trump was not to be taken literally. This no longer appears to be the case. The man has a long track record of childish score-settling, and so his commentary around AT&TTWX, which could be dismissed a week ago when we weren’t actually building a wall or detaining refugees as campaign rhetoric, deserves fresh eyes as well. Combined with some pushback from Democrats, I think AT&T-TWX could be a harder slog than investors currently expect. I still have a good-size position here, but took some gains since I am up 7% and slightly less confident in the deal post-weekend. A 7% return in two months is not great, but not terrible either and I have other places I can put the cash to work. I still think the deal gets done, but my confidence goes from 70% to 55%.

I also took gains on CHTR on the VZ acquisition rumors. I don’t know how that deal would get done or when, and I am skeptical that Charter is through the pain of integrating Time Warner Cable. Consequently I sold a bit of CHTR prior to earnings, but it is still a large position for me.

Valuation must serve as the foundation to any investment thesis.

Valuation must serve as the foundation to any investment thesis.

Valuation must serve as the foundation to any investment thesis.

^Consider these my chalkboard lines for today.

 

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Author: secondhandstocks

The genesis for this blog stems from a Marine buddy and I came back from Afghanistan with more money than knowledge, and heedlessly tossed our hats into the stock market ring. A few months later, I remember discovering the classic book The Intelligent Investor by Graham and Dodd, and ravenously devouring my first introduction to value investing. That framework - with some generous additions by Seth Klarman, and Joel Greenblatt among others - guides my investment philosophy. I spent five years working in the intelligence field, both in the Marine Corps and then for a government agency after that. I speak Arabic and Pashto, have programming and analysis experience, and enjoy investing in technology companies as a hobby. I also spent a year on Wall Street working on a #1 Ranked Institutional Investor team, before deciding that that the Sell-Side was not for me.

4 thoughts on “Rite Aid Post-Mortem”

  1. Loving these. I have no idea what’s happening half the time, but… I’m getting there.

    On Mon, Jan 30, 2017 at 4:14 PM Secondhand Stocks wrote:

    > secondhandstocks posted: “In my original post I said I’d take a flyer on > RAD. Boy howdy do I wish I’d gone over my usual checklist! WBA and RAD > announced new deal terms. I assumed the following about any potential new > deal: The FTC would be more spineless than it has been at th” >

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