Rite Aid Corporation (RAD), CVS Caremark Corporation (CVS), Walgreen Company (WAG): The Generic Shift Leaves Pharmacy Investors Well Positioned

What’s good about all of these companies is that none have reached a peak in volume, all have room to grow, thus suggesting higher margins. The pharmacy business has always managed the tightest of margins with the exception of grocery, therefore all companies in the space trade at deep discounts to sales. As a result, with more high-profile generics scheduled to hit the market in the next 24 months, there is reason to believe that the pharmacy space could become even more of a Wall Street favorite.

One Last Telling Chart

I will conclude with the chart above, which is the fuel to my thesis that pharmacy stocks will be top performers in 2013/2014. We already know that generic drugs return higher margins to pharmacies, some a two-to-one ratio. We also know that margins are improving, and that sales are slightly declining. However, because of how cheap these stocks are compared to sales, it really doesn’t matter if these companies lose 5-10% of their sales with the generic shift, so long as margins improve another 0.50%-1.00%.

In the case of Walgreen Company (NYSE:WAG) and CVS Caremark Corporation (NYSE:CVS), I wouldn’t be surprised to see 5% profit margins in the next two years, but in the case of Rite Aid Corporation (NYSE:RAD), it has so much room for improvement that it could become the best performing stock for years to come. The company went from negative earnings to posting net income of $107.47 million for 2012 with just two good quarters, and this occurred almost solely because of the higher margins in generic drugs. Thus I suggest watching Rite Aid Corporation (NYSE:RAD) and the rest of the space closely, and expect larger gains as the market corrects a space that has traded at a deep discount to sales with margins on the rise.

The article The Generic Shift Leaves Pharmacy Investors Well Positioned originally appeared on Fool.com and is written by Brian Nichols.

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