Rite Aid Corp , a perennial laggard U.S. drugstore chain, is enjoying something of a comeback, enticing some big-name hedge funds to buy shares on the bet that a turnaround will send them rising.

Debt-saddled, money-losing Rite Aid is the third-largest U.S. drugstore chain, with nearly 4,700 stores. After years of declines, same-store sales have risen in its three most recent quarters. On Thursday, Rite Aid said second-quarter same-store sales were up 2.2 percent.

The improvement, however modest, is fueling speculation that Rite Aid shares, which have been trading for less than $1.50 for nearly a year and a half, have hit bottom.

New initiatives, like a customer loyalty program and smaller stores, are gaining traction with shoppers, and the company's CEO of 14 months, John Standley, is well regarded by investors.

Shares in Rite Aid have fallen 84 percent in roughly four years and were as low as 20 cents in 2008.

You could see the business doing a lot better; you could see the stock doing a lot better one large shareholder said, speaking on condition of anonymity. His fund has tripled its shares in Rite Aid in recent months.

Even a modest rise in shares could yield a big payday for investors, many of whom were bondholders who bought debt on the cheap in 2008 and have converted that into equity.

Investors that recently have taken equity in Rite Aid or added to what they already owned include: Leonard Green & Partners LP, Diamondback Capital Management, Perry Capital LLC, Standard Pacific Capital and billionaire investor George Soros, whose fund reported a small stake in May.

Canadian retailer Jean Coutu Group
, Rite Aid's biggest shareholder since it sold its U.S. drugstores to Rite Aid in 2007, when Rite Aid shares were worth $6.70, said in July it would shed 10 percent of its 26.8 percent stake. Coutu also said it intends to remain the largest investor.

NOT A TAKEOVER TARGET ... YET

A major draw for investors is Rite Aid's potential as a takeover target, despite its market value of just $1 billion.

Still, Rite Aid will not be in play until it makes serious inroads into its enormous debt load.

For now, the company could keep selling or shutting some stores. In recent years, rival Walgreen Co has bought more than 20 stores from Rite Aid.

Analysts say Walgreen and CVS Caremark Corp , the top two drugstore chains, could particularly be drawn to Rite Aid's attractive portfolio of stores in California and Pennsylvania, while Wal-Mart Stores Inc could be tempted by its stores' sizes to help expand its new smaller-format business.

Rite Aid's $6 billion long-term debt has been an albatross, leading to severe liquidity crises in 2000 and 2008. The company's interest expenses of more than $500 million a year in the last two fiscal years effectively wiped out any profit.

The biggest obstacle (to a deal) is their debt load, said a retail investment banker, who declined to be named because he was not authorized to speak to the media.

Rite Aid's debt is seen as so risky that on Thursday it cost 29 times more to protect $10 million of Rite Aid debt for five years than Walgreen debt based on credit default swap trades, according to Markit. Walgreen CDS are thinly traded.

Although Leonard Green, the private equity firm that has done a number of leveraged buyouts of retail chains, is the No. 2 investor in Rite Aid and holds a seat on its board, it is unlikely to make a bid for the company, a source close to the situation said. One reason is that Rite Aid largely leases its stores rather than owning them.

Leonard Green did not return a request for comment. Rite Aid declined to comment for this article.

In addition, Rite Aid's unionized workers would deter Wal-Mart, which has no U.S. unions, industry experts said.

Despite the debt load, a Chapter 11 bankruptcy protection filing is not considered an imminent possibility. Rite Aid has no major maturities coming due until 2014 and generates ample cash from $25 billion in annual sales.

TOUGH TURNAROUND

Rite Aid still faces a number of challenges.

It commands just 11.4 percent of the U.S. market, compared with 27.1 percent for CVS and 32 percent for Walgreen, according to IBISWorld. Its same-store sales gains have been far smaller than its profitable, deep-pocketed rivals.

Many of its stores are not very productive, and sit in undesirable locations under landlords with tough lease terms.

Last fiscal year, Rite Aid stores generated sales of about $534 per square foot, compared with $822 at CVS and $802 at Walgreen, according to data in the companies' annual reports.

It's all about sales per square foot, said Andrew Wolf, an analyst with BB&T Capital Markets.

CVS and Walgreen have the means to invest heavily in sprucing up their stores, expanding their worksite wellness clinics and offering more fresh food.

Rite Aid, despite being handcuffed by its debt, also has managed to try new concepts, but analysts say it lags rivals.

One of the issues Rite Aid has had for a while is that it's not a first mover in the industry, said IBISWorld healthcare analyst Sophie Snyder. Snyder believes Rite Aid's market share will hold steady but that Walgreen and CVS will keep gaining customers.

The next few years will be decisive for Rite Aid.

We have at least four years or more of what we call runway, the time for the business to perform and rebound, the shareholder said.

(Reporting by Phil Wahba and Nadia Damouni in New York, and Jessica Hall in Philadelphia; editing by Gunna Dickson)