Hoping to position itself for a turnaround, Rite Aid Corp. said yesterday that it had agreed to sell its pharmacy benefits subsidiary to Texas-based Advance Paradigm Inc. for $1 billion.
Rite Aid, struggling against heavy losses, high debt and sharply lower share prices, is selling PCS Health Systems Inc. for a third less than the $1.5 billion it paid last year for the company. It will use the proceeds to pay down debt.
Advance Paradigm - which like PCS is a pharmacy benefits manager that acts as an intermediary between pharmacy companies and health plans or employers - will pay Rite Aid $675 million in cash, $200 million in senior subordinated notes and $125 million in new stock. The deal will leave Rite Aid with a 15 percent stake in PCS, which will change its name to Advance PCS and stay independent.
"It's definitely something they needed to do," said Glenn S. Curtis, an analyst with Worldlyinvestor.com who follows Rite Aid. "Is it the end-all that will bring them out of their problems? No, I don't think so. There's a lot to prove to the Street before the stock pops back."
The announcement came a day after Rite Aid reported losses of $238 million for the first quarter that ended May 27 and $1.1 billion for the fiscal year that ended Feb. 26. The nation's third-largest drugstore chain, based in Camp Hill, Pa., also restated earnings for the 1998 and 1999 fiscal years, resulting in total losses in those years of $608 million. Shares of Rite Aid fell 62.5 cents yesterday, closing at $6.
Robert G. Miller, Rite Aid's chairman and chief executive officer, said the PCS sale will allow the retailer to reduce debt, strengthen its balance sheet and fully focus on its core drugstore business.
Rite Aid purchased PCS under former CEO Martin Grass to enlarge its much smaller pharmacy benefits business. But the purchase, along with the purchase of Thrifty Payless Inc., the largest drugstore chain on the West Coast, has been considered a major contributor to Rite Aid's financial troubles.
In October, the company said it was forced to revise its financial statements, slash its past profit by $500 million and sell assets to pay down its debt. That news, which shook investor confidence and sent share prices down, was followed by several more months of upheaval.
Grass was ousted in October. The company's longtime auditor, KPMG International, quit in November, and Rite Aid became the subject of a Securities and Exchange Commission probe.
The sale of PCS will bump up Advance Paradigm's national ranking from the second-largest independent pharmacy benefits manager to the largest, with $3.2 billion in revenue, serving 75 million health plan members. The combined client base will include employers, Blue Cross Blue Shield plans, state and federal governments and other health benefit plan sponsors.
Under the new Advance PCS, PCS and Advance Paradigm will maintain separate claims processing systems and mail service pharmacy facilities.
The PCS purchase will be a good strategic fit for Advance, said Kelly Crowe, a health care services analyst at Morgan Keegan and Co. in Memphis, Tenn. "Advance Paradigm is a pure pharmacy benefits manager," she said. "PCS has been owned by organizations that haven't been PBMs [pharmacy benefits managers]. It has been passed around and has never found a real strategic home. It's all about size and scale. What matters is your negotiating strength with pharmaceutical companies and retail drug chains."
The boards of both companies approved the acquisition, which is expected to close by Sept. 30 and is subject to Federal Trade Commission approval.
In a telephone interview yesterday, Miller said that after the PCS sale and a recent refinancing, "now the important thing is we have the capacity with the new liquidity to invest in a [turnaround] plan. The turnaround plan is to run better stores."
Plans include programs to motivate employees, more consistent advertising and continuing work to improve store stock. He said by working to restore vendors' confidence, the chain has resolved most stock problems. The retailer has also reduced prices on 1,500 items to bring itself in line with competitors CVS and Walgreen, he said.
"It's Retail 101," the former Kroger Co. executive said. "We know how to do that and are committed to doing that."
Though the former management's aggressive growth got the chain in trouble, it has also left it with a modern store base, new distribution centers and state of the art equipment and pharmacy systems, Miller said, adding, "We have the opportunity to get a return on the investments."