Rite-Aid had "disappointing" Q3 but touts $605 million debt reduction

By Paul Deckelman

New York, Dec. 16 - Rite-Aid Corp. had what its chief executive officer called a difficult and disappointing third quarter as net income dropped sharply from year-earlier levels and actually slid into the red on an earnings per-share basis. Unfavorable industry conditions - which Rite-Aid had recently warned of in lowering its guidance for the quarter - caused the Camp Hill, Pa.-based drugstore chain operator to now lower its forecasts for 2005.

Even as earnings were going down, however, so was debt, with Rite-Aid boasting of a $605 million debt reduction in the quarter ended Sept. 30. Combined with a debt refinancing in the quarter, Rite-Aid said that it anticipates cutting annual interest expense by $27 million versus its interest costs under the old facility that was replaced. Additionally, the structure of the refinanced facility puts the company in a good position to be able to pay off a number of bond issues scheduled to mature over the next several years.

Rite-Aid chief financial officer John Standley told analysts and investors on a conference call following the release of the third-quarter numbers that Rite-Aid had managed to cut its overall debt load down to $3.2 billion during the quarter using cash on the balance sheet and the proceeds from the company's new accounts-receivable securitization agreements.

But the centerpiece of its interest- and debt-cutting efforts was the company's new $1.4 billion senior secured credit facility consisting of a $450 million term loan and a $950 million revolving credit facility, both maturing in September 2009. That facility replaced the company's previous $1.15 billion senior secured term loan credit facility, which was to have come due in April 2008, and its $700 million revolving credit facility.

Besides a reduction in the overall size of the borrowing, the new credit facilities carried floating interest rates well below the previous term loan's Libor plus 300 basis points rate and the previous revolver's Libor plus 350 bps rate.

Standley additionally said that the company had increased the size of the revolver in order to have what he called "a safety stop" in case it has to draw on it to pay off about $216 million of bonds scheduled to mature next year - $178 million of 7 5/8% senior notes maturing on April 15 and $38 million of 6% seniors scheduled to come due next Dec. 15.

Beyond that, the company is estimated to have $138.6 million of 12½% senior secured notes and $246.75 million of unsecured convertible notes coming due in 2006, $184 million of 7 1/8% senior unsecured notes due 2007 and $150 million each of 11¼% and 6 1/8% notes due in 2008.

Standley said that Rite-Aid "took a lot of our excess cash - we had $335 million at the end of the second quarter - and we used that to pay down our old term loan facility and [then] to restructure that to give us a larger revolver facility to be available for next year's maturities."

"Gigantic" revolver

The company, he continued "has a couple of different angles" when it comes to dealing with the 2005 maturities and beyond. "There's this fairly gigantic revolving credit facility, which gives us a safety stop to deal with those maturities as they come due."

Or it might not have to dip too heavily into that, he said, because "obviously, there's whatever cash from operations, after capex, that would be available, or whatever access we want to take to the capital markets that make sense, to do these debt-debt kind of things at the time we deal with those maturities.

"We have," he summed up, "a lot of different avenues" that the company could go down in terms of dealing with the near-term debt.

An analyst asked Standley whether that included opportunistically visiting the capital markets to borrow more money. He indicated that Rite Aid had pretty much chosen its course by taking its cash and rather that letting it just sit in the bank and "making ½% or 1%, or whatever, on that, as required by our investment policies here," deciding instead to spend it on de-levering, "and that made sense," putting the company in the position to refinance and upsize the revolver and hold it available to pay off maturing debt in the next few years, "if we choose to do that."

However, he also said that Rite-Aid has "proven over the last five years that we're very opportunistic [about doing new borrowing deals], and that if something made sense to us, we would pursue it."

Could resume bond buybacks

In June, Rite-Aid said that it had bought back $38 million of the 6 7/8% and 7 1/8% notes, and the CFO was asked whether the company would continue to buy back bonds, and he said that "we are not doing that at this time" - although he qualified that with the proviso that "we are opportunistic - and I would want to leave the door open."

Rite-Aid said on the conference call that it had about $99 million drawn on the revolver, and an outstanding balance of $335 million on the $400 million accounts receivable securitization facility, which runs through September 2007.

The company's lowered debt-load was reflected in its interest costs, which fell to $70.6 million in the third quarter - $65.8 million cash and $4.9 million non-cash - from $77.7 million in the year ago quarter, consisting of $72.5 million cash interest and $5.2 million non-cash.

Overall, Rite-Aid posted net earnings of $1 million (a one-cent per share loss) in the quarter, well down from year-ago earnings of $73.6 million (12 cents a share). The loss attributable to common shareholders, after payment of $8.7 million in preferred stock dividends, was $7.7 million in the latest quarter (one cent a share) versus $76.5 million (12 cents a share) a year ago. Revenues in the latest quarter were $4.10 billion, flat from a year ago. Analysts had expected the company to break even on revenues of $4.16 billion.

Adjusted EBITDA was $163.8 million or 4.0 percent of revenues compared to $177.5 million or 4.3 percent of revenues last year.

"Disappointed" with earnings

Rite-Aid president and chief executive officer Mary Sammons declared that the third quarter "was a difficult one and we are disappointed with the results."

Among the factors contributing to the lower earnings were the United Auto Workers union directive that certain prescriptions under its health plan would be fillable only by mail rather than at walk-in pharmacies like Rite-Aid; a less severe flu season than it was originally shaping up to be, even with the well-publicized vaccine shortage; the difficulty of competing against strong year-ago numbers that had been boosted by Rite-Aid's having picked up customers during the 2003 West Coast supermarket strike, which has since been settled; and a $20.2 million loss on debt modifications resulting from the pay down and refinancing of the credit facility during the latest quarter.

Based on current trends, Rite Aid announced lowered fiscal 2005 guidance for sales, net income and adjusted EBITDA. The company said it expects sales to be between $16.7 billion and $16.8 billion, versus $16.9 billion to $17 billion previously, with same-store sales - the key retailing industry performance metric - improving just 1.2% to 2.1%, as opposed to prior projections of a gain of 2.75% to 3.25%.

It said that net income for fiscal 2005 is expected to come in at between $49 million and $99 million (between three cents and 12 cents per share), down from previous guidance of net income between $122 million and $150 million (16 cents to 22 cents per share).

Adjusted EBITDA is expected to be between $700 million and $750 million, lower than previous guidance of between $770 million and $800 million, while capital expenditure guidance is expected to be $225 million to $250 million, down from $275 million to $325 million.

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