Even if the FTC Blocks Deal, Walgreens (WBA) Likely to Litigate to Win Rite-Aid (RAD) - Cowen

Cowen analyst Charles Rhyee lowered his price target on Rite-Aid (NYSE: RAD) to $4.70 (from $6.75) but maintained an Outperform rating saying they believe Walgreens (NYSE: WBA) will pursue a deal even if the FTC moves to block it.

Rhyee said while it is too hard to call whether the FTC approves or blocks the WBA/RAD deal as we approach the July 7th deadline, more relevant is whether WBA walks away or litigates if the deal is blocked.

"While RAD on its own is challenged, its value as part of WBA, based on our analysis, remains significant and well above the deal price range," he commented. "This leads us to believe if the FTC were to block, WBA would litigate to win RAD."

Rhyee said RAD stand-alone model yields a valuation of $2/sh. However, they think WBA will likely pursue the deal in court if the expected synergies and operating improvements under new mgmt minus divestitures is greater than $5/sh, which when added to stand-alone RAD of $2/sh would be greater than the top-end of the offer range.

They find that the $1B synergies creates significant value in the amount of $7.65/sh, which along with the $2/sh value of RAD stand-alone minus $0.44 related to divestitures, equals $9.21/sh. This is 32% above the high-end of the offer range and also above the original $9 offer price, prior to the amended merger agreement.

The analyst also looks at the possibility the FTC commissioners remain deadlocked at 1-1. "At 1-1, a consent decree isn't required, meaning that the FTC would not have the enforcement power to ensure that the divestiture of RAD stores is executed smoothly, although it could be agreed upon that the divestiture of RAD stores to FRED is conditioned and guaranteed to close concurrent with the acquisition of RAD by WBA," he commented. "We note that the FTC Chairman, Maureen Ohlhausen, who is likely more favorable to the transaction, could use the 1-1 vote as leverage to build consensus and arrive at a consent decree."

Meanwhile, the analyst said the market appears to imply 32% probability of regulatory approval. At a 50% probability of the transaction closing, shares should trade at $4.25, or upside of 23%, he said. At a 60% probability of the transaction closing, which we think is more likely, shares should trade at $4.70, or upside of 36%.

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