The downgrade to Ba2 — two steps into high-yield — reflects “Walgreens’ stubbornly high financial leverage, weak interest coverage and pressured free cash flow that Moody’s believes will be sustained over the next 12-18 months,” senior credit officer Chedly Louis wrote in a note Monday.
Walgreens shares fell as much as 2.9% following the downgrade, erasing an earlier gain. They closed down 0.7%.
“We are disappointed by Moody’s decision today and the limited timeframe given to demonstrate the results of our deleveraging efforts and planned actions to improve underlying business performance,” a representative for Walgreens said in a statement.
Walgreens still carries the lowest investment-grade rank from S&P Global Ratings, and it isn’t rated by Fitch Ratings. Companies that are cut to junk by two credit graders are deemed “fallen angels” and have their debt move to high-yield indexes.
Walgreens paid down debt during its 2023 fiscal year and says it will continue doing so next year. But the cost of the new strategy and a weaker consumer environment will likely cause the company’s debt load to peak around 6 times its earnings before interest, taxes, depreciation and amortization at the end of the 2024 fiscal year, according to the note, before recovering in 2025.
Moody’s said in October that it was considering downgrading the company. Its current outlook on Walgreens is stable.
Healthcare Pivot
Moody’s decision comes as Walgreens pivots away from drugstore operations to focus more on patient care, a transition that has revealed cracks in its business model.
Walgreens in recent months announced plans to close 450 stores and cut 10% of its workforce to sharpen its focus on patient care. In October, Moody’s warned Walgreens was at risk of losing its investment-grade status, citing a decline in profitability. For example: Its new US healthcare business, which includes CityMD urgent care locations, has lost more money than expected, Moody’s said at the time.
At the same time, Walgreens has accrued a total liability of $7.4 billion in opioid-related claims and litigations settlements, according a report from S&P that prompted the credit grader to lower the Deerfield, Illinois-based company’s outlook to “negative” from stable in July. Walgreens also previously slashed its full-year profit forecast.
Walgreens announced a $1 billion cost-cutting program on Oct. 12 and said that it aims to lower capital expenditures by about $600 million as it prepares for the arrival of new Chief Executive Officer Tim Wentworth, who took over on Oct. 23.
The rating downgrade impacts about $9 billion of debt, according to a Walgreens spokesperson.
Rival CVS Health Corp. has also been facing operational pressures amid a similar shift toward more health-care offerings.
In its latest earnings, CVS warned investors to have conservative expectations for 2024 as the healthcare giant grapples with rising costs in its pharmacy and insurance businesses. CVS also previously announced a restructuring plan to streamline operations and reduce costs, which included eliminating 5,000 non-customer facing positions, as the Woonsocket, Rhode Island-based company works to free up capital for investments in its health-care business.