Miller's Rx helps ailing Rite Aid

Medicine: The patient's condition is still guarded, but the Rite Aid drugstore chain is responding well to new CEO's treatment.

July 28, 2002|By Gus G. Sentementes | Gus G. Sentementes,SUN STAFF

Rite Aid Corp. teetered on the brink of ruin more than two years ago after an accounting scandal led the company to wipe away $1.6 billion in profits.

Employee morale was in the gutter, supplier relationships were in tatters, angry shareholders were suing, and federal regulators were poring over the books.

A mountain of debt -- almost $7 billion -- was crushing the company. It was largely the legacy of Martin L. Grass, who as chief executive officer had gone on an acquisition spree in the mid-1990s only to be forced out and later indicted.

Now under new management, the No. 3 drugstore chain is regaining its footing having endured the kind of corporate catharsis that many companies -- from Enron Corp. to WorldCom Inc. -- are just beginning.

Analysts said the new management team has done a good job of dealing with the legacy left by Grass and other former managers. But the company still has far to go as it squares off against Walgreen Co., the No. 1 drug chain, and second place CVS Corp.

"I think they have their work cut out for them in a pretty competitive retail environment and a pretty competitive drugstore retail environment," said Stephen C. Chick, a retail analyst with J.P. Morgan Chase & Co. in New York City. "I think execution is pretty big, and demonstrating that the problems of the past aren't necessarily structural."

Led by Chairman and CEO Robert G. Miller, the chain embarked on its recovery program by installing new managers, closing unprofitable stores and negotiating with lenders for more breathing room.

Miller revamped the management structure, moving senior vice presidents from company headquarters near Harrisburg, Pa. to regional offices closer to the stores they supervise.

Since arriving in December 1999, Miller has been shoring up Rite Aid's balance sheet through the billion-dollar sale of its pharmacy benefits subsidiary and refinancing maneuvers that have pared its debt to $4 billion.

"Even though I would not say we're not highly leveraged, we're certainly leveraged [at a point] where we can manage now," said Miller, who previously turned around Fred Meyer Stores Inc., enabling the grocery chain to be sold in 1999 to Kroger Co., the nation's top grocer.

Signs of progress are showing up in Rite Aid's results. Sales have grown steadily, from $11.4 billion in fiscal 1998 to $15.2 billion in fiscal 2002, which ended March 2.

In the 2002 fiscal year, Rite Aid slashed its annual loss nearly in half from fiscal 2001 -- to $828 million from $1.6 billion. In the first quarter this fiscal year, it posted its first profit in five years -- $2.6 million -- as a result of asset sales and a tax benefit.

"They've been improving margins," said Diane Shand, a director in Standard & Poor's corporate rating division in New York. But Rite Aid is "still very highly leveraged, and their operating performance is still significantly below its peers," she said.

S&P's rating of Rite Aid's corporate debt is a single "B with a positive outlook," a highly speculative grade with a lot of risk.

Shand said Rite Aid's operating performance has improved under its new management and that if the progress continues, its credit rating probably would be upgraded.

The company's stock price continues to languish, closing Friday at $2.03 after trading at more than $50 before the accounting problems surfaced in late 1999.

Rite Aid amassed much of its debt after Grass embarked on an ambitious expansion program having wrested control of the company from his father, company founder Alex Grass, in a boardroom coup in 1995.

Under Martin Grass, Rite Aid bought Thrifty Payless Holding Inc., a West Coast pharmacy chain, for more than $2.2 billion in stock and debt. Thrifty and other chains bought by Grass raised the number of Rite Aid stores to 3,800 increasing the company payroll to 85,000.

The acquisitions, which also included the $1.5 billion purchase of PCS Health Services, a pharmacy benefits manager, from Eli Lilly & Co., put pressure on the balance sheet.

Revelations of accounting irregularities surfaced in October 1999, and Grass, then a resident of Baltimore County, and others were ousted, or soon left the company, leaving it on the verge of bankruptcy.

Last month, Grass and two other former Rite Aid officials were charged in a 37-count indictment alleging they manipulated the company's earnings, inflated its financial statements and personally profited from the scheme.

Although the indictments spotlighted Rite Aid's troubled past, they were accompanied by some relief. The Securities and Exchange Commission announced that it had resolved its investigation into Rite Aid's accounting practices and would not seek to penalize the company.

"That the company's not getting fined, all things being equal, that's good news," said Sheldon Grodsky, director of research of Grodsky Associates Inc. in South Orange, N.J. "They're going after the former officers rather than trying to inflict more pain on the shareholders."

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