What Impact Will Walgreens’ Acquisition of Rite Aid Have On Cap Rates?

Deerfield, Ill. — For investors in net leased drugstore properties, one key question resulting from Tuesday’s announcement that Walgreens Boots Alliance Inc. has agreed to acquire Rite Aid Corp. for $17.2 billion, including acquired net debt, is what effect will the transaction have on lease terms and cap rates? 

Jimmy Goodman, a partner with Northbrook, Ill.-based The Boulder Group, which specializes in the net lease sector, believes the deal is good news for owners of single-tenant assets occupied by Rite Aid.

“If you own a Rite Aid it’s a positive for you because now you’ve got a better brand in Walgreens, which is second in market share, as opposed to Rite Aid, which is third,” he says. “Initially, I expect transaction volume to slow down simply because people will want to wait and see what will happen to specific stores. Other owners will be worried about store closure impact.”

Goodman also doesn’t foresee a high number of Rite Aid locations closing.

“Rite Aid’s market share is relatively low and concentrated on certain geographies,” says Goodman. “This will only affect stores that are literally right across the street from one another.”

CVS/Pharmacy controls 58 percent market share in the drugstore sector, Walgreens controls 31 percent and Rite Aid has 10 percent, according to research firm IBISWorld. The industry generates $263 billion in annual revenue and $10.3 billion in profit.

CVS/Pharmacy stores hold an average 5.45 percent cap rate, according to The Boulder Group’s third-quarter 2015 net lease drug store research report, while Walgreens’ median cap rate is 5.5 percent and Rite Aid’s is 6.6 percent. Goodman does not expect much change to those numbers following the merger.

Stan Wyrwicz, senior managing director with the Boston office of Calkain Cos., a commercial real estate firm focused on net lease investments, says the biggest concern for an owner of any net leased property is what happens if a store closes.

“The real issue will be if the drugstore tenant doesn’t renew,” he says. “What happens then? It depends on if that particular store is under market or over market on rent. Some older Rite Aid stores have significantly below market rent. That could be a windfall if the store closes and the owner is able to increase the rent through signing a new tenant.”

Under the terms of the deal, Walgreens Boots Alliance will acquire all outstanding shares of Rite Aid for $9 per share in cash. The boards of directors of both companies have approved the transaction, which is subject to approval by the holders of Rite Aid’s common stock, the expiration or termination of applicable waiting periods under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended, and other customary closing conditions.

“Today’s announcement is another step in Walgreens Boots Alliance’s global development and continues our profitable growth strategy,” stated Stefano Pessina, executive vice chairman and CEO of Deerfield, Ill.-based Walgreens Boots Alliance, in a prepared statement on Tuesday. “In both mature and newer markets across the world, our approach is to advance and broaden the delivery of retail health, wellbeing and beauty products and services.”

Added Pessina: “This combination will further strengthen our commitment to making quality healthcare accessible to more customers and patients. Our complementary retail pharmacy footprints in the U.S. will create an even better network, with more health and wellness solutions available in stores and online.”

The transaction is expected to close in the second half of 2016. Upon completion of the merger, Camp Hill, Pa.-based Rite Aid will be a wholly owned subsidiary of Walgreens Boots Alliance, and is expected to initially operate under its existing brand name. Decisions will be made over time regarding the integration of the two companies.

Rite Aid currently operates 4,600 stores in the U.S., while Walgreens operates 8,200, meaning the combined company would include around 12,800 stores. CVS operates about 7,800 locations.

Walgreens Boots Alliance expects to finance the transaction through a combination of existing cash, assumption of existing Rite Aid debt and issuance of new debt.

Citi acted as Rite Aid’s exclusive financial adviser, with Skadden, Arps, Slate, Meagher & Flom LLP acting as its legal counsel on transaction legal matters and Jones Day acting as its legal counsel on antitrust regulatory matters.

UBS Investment Bank acted as Walgreens Boots Alliance’s financial adviser and provided a fairness opinion to the board of directors of Walgreens Boots Alliance, with Simpson Thacher & Bartlett LLP acting as its legal counsel on transaction legal matters and Weil, Gotshal & Manges LLP acting as its legal counsel on antitrust regulatory matters. UBS Investment Bank will be the sole arranger on the bridge financing to Walgreens Boots Alliance.

— Haisten Willis

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