1 bruised dividend stock to buy when cheap and 1 to avoid

Sometimes great companies that have gone through difficult times can make big investments. The market typically sells stocks at higher than warranted levels when the underlying business reaches a downturn or fails to meet the market’s fundamental expectations in the near term. But if the long-term outlook is fundamentally sound, such market action simply makes the stock cheap, making it a good pick for value investors.

But it’s also true that many investors lost their shirts by betting on last year’s runaway winners in hopes of a recovery that never arrived.

Undoubtedly, it is difficult to tell which stock falls into which of the two categories above. So let’s look at each example one by one.

Product to Buy: Pfizer

Despite high-profile work in developing a coronavirus vaccine at the start of the pandemic, total revenue Pfizer‘S (PFE 1.60%) Over the past three years, the stock price has fallen 11%, significantly underperforming the market. And it’s not like the company can tell shareholders that it’s going to top $100 billion in 2022 any time in the next few years. The product will decline until it reaches its long-term level.

However, this does not mean that dividends will stop growing over time, albeit at a slower rate.

Nor does this mean that the company’s ability to pay dividends will be jeopardized, and management actually plans to increase the capital allocated to shareholders as soon as debt repayment from its recent acquisition of cancer treatment company Seagen is completed. With $64 billion in debt and $1.3 billion in long-term borrowings on track to be repaid in the fourth quarter, the project will take some time.

But with Seagen and a few other acquisitions, the future looks bright. Pfizer aims to achieve total new sales of $45 billion by 2030. Few companies can say they will generate that much additional revenue in absolute terms over the next six years, and Pfizer, with its world-class management team, is more likely to succeed than fail.

In that context, a forward price-to-earnings (P/E) ratio of 12 looks cheap, assuming you’re willing to be patient.

Avoid: Walgreens Boots Alliance

Walgreens Boots Alliance (W.B.A. 1.05%) It is struggling to find a home in the U.S. healthcare market. The traditional approach of consumer-facing pharmacies is no longer sufficient to drive growth. At the same time, dividends have been cut from $0.48 to $0.25 per quarter this year, and it’s unclear when payments will return to growth.

The smart move is to expect it to take several years. Despite its recent strategic entry into the primary care sector, the company’s revenue has not grown rapidly and its spending has increased, leading to a significant decline in its free cash flow (FCF) over time. The chart below shows Walgreen’s FCF decline trajectory over the past five years despite nearly constant earnings.

WBA revenue (quarterly) data from YCharts.

As you can see, costs are growing faster than revenue, reducing profitability. This is not the situation you would expect from a well-functioning company that has historically competed primarily in relatively stable industries such as retail pharmacies.

Plus, Walgreens Boots Alliance doesn’t have a trump card to play at this point. It’s a combination of the cost savings needed to generate revenue from store closures and the need for massive new spending to gain market share. Shareholders have already paid for the dilemma once when dividends were cut, and they may have to pay again.

The company has been selling hundreds of millions of dollars of investments to cover short-term costs. This is likely to continue for the foreseeable future, but eventually there will be a shortage of investments to sell. Additionally, each time you sell, your assets decrease, which is not desirable.

What’s worse is that Walgreens’ leaders see more headwinds than tailwinds in 2024, so they don’t think there’s a need to buy this stock.