Subsequent to the announcement of Walgreen’s first quarter 2012 (ended November 30) results on December 21, 2011, majority of the analysts have reduced their estimates for the forthcoming period.
Previous Quarter Highlights
Walgreen reported first quarter 2012 EPS of 63 cents, a penny higher than the year-ago quarter earnings but missed the Zacks Consensus Estimate of 67 cents. The result includes a negative impact of 1 cent per share related to the delay in the cough/cold and flu season, 1 cent in comparable pharmacy sales related to the non-renewal of the Express Script (ESRX - Analyst Report) contract and 1 cent in related expenses.
Revenues rose 4.7% year over year to $18.2 billion and were in line with the Zacks Consensus Estimate. Comparable store sales (those open for more than a year) during the quarter climbed 2.5% while front-end comparable drugstore sales spiked 2.4%. Customer traffic in comparable stores inched down 0.2% while basket size increased 2.6%. Walgreen expanded its retail pharmacy market share to 19.9%. The company opened/acquired 71 new drugstores (a net gain of 51 after relocations and closings) in the reported quarter compared with 121 (89) in the year-ago quarter.
For a full coverage on the earnings, read: Walgreen Disappoints in 1Q
Estimate Revision Trends
In accordance with the company’s current decision of not associating itself with Express Scripts’ pharmacy networks, the recent Zacks Consensus Estimate revision for the upcoming period reflects a negative bias.
Over the past 30 days, 11 of the 19 analysts covering the stock revised their estimates downward for the second quarter while only 2 analysts raised their estimates. The negative trend is also witnessed for fiscal 2012 with 18 of the 22 analysts shrinking their estimates and none increasing the same.
The bearish sentiment is primarily the reflection of the ongoing dispute between Walgreen and Express Script. With this move, effective January 1, 2012, Walgreen’s 7,700 pharmacies will not be a part of Express Scripts’ pharmacy provider network. As a result of that, the company will also forego its business with major clients like Tricare and WellPoint.
Although the company estimates that its client retention rate in 2012 will be in the range of 97%–99% of the fiscal 2011 prescription volume, the non-renewal of the contract is expected to hinder Walgreen’s business and affect its position in the drug and health care delivery sector. Moreover, successful completion of the proposed Express Script and Medco Health Solutions merger is expected to worsen the probability of full renewal of the Walgreen-Express Script contract.
The analysts are also concerned based on the present weak macroeconomic environment where the unemployment rate remains high at 8.9%, and food and gas prices are also on the rise. Increasing costs coupled with unemployment makes the customers more value driven. Consequently, spending on discretionary items is affected. We are of the opinion that this situation will impact same-store sales growth. The company also faces other headwinds such as pharmacy reimbursement pressure and front-end margin pressure, which can hinder gross margin expansion further.
However, the company expects gross margin to improve in the second half of fiscal 2012 based on new generic drug introductions, including generic Lipitor. We are also encouraged by Walgreen’s several recent initiatives to maintain its leading position in providing flu shots and other immunizations. During the flu season this year, considered till November 30 2011, notwithstanding the volatility, timing and the severity of the cough/cold and flu season, the company administered 5 million flu shots compared with 5.6 million a year ago.
Another factor favoring Walgreen is its strong cash balance. Walgreen exited the first quarter of fiscal 2012 with $1.09 billion in cash and cash equivalents, compared with $2.06 billion at the end of November 2010. The company’s cash flow trends continued to remain strong at the end of the quarter with $809 million of cash flow from operations versus $1.165 billion a year ago, primarily driven by the change in working capital.
Magnitude of Estimate Revisions
The magnitude of estimate revisions for fiscal 2012 has been significant. In the past 30 days, estimates for fiscal 2012 have deceased 10 cents to $2.73.However, for the current quarter, estimate has gone down by 4 cents in the past 30 days to 81 cents.
The company, however, is presently working on winning new contracts. Earlier this month, Chinese Community Health Plan (CCHP), whose prescription drug insurance was managed by Express Script, transformed itself into a new pharmacy benefits management (PBM) company in order to obtain the service of Walgreen pharmacies. Walgreen also entered into a new deal with Express Scripts to provide services to Blue Cross and Blue Shield of Kansas City's prescription drug program (effective from January 2012).
Walgreen currently faces intense competition from major players like CVS Caremark (CVS - Analyst Report) and Rite Aid Corporation (RAD - Analyst Report). We are impressed with the company’s efforts to establish itself as a leading provider of pharmacy, health and wellness solutions and are confident about the long-term potential of the company. Currently, we are Neutral on the stock, at par with CVS Caremark and Rite Aid.
About Earnings Estimate Scorecard
Len Zacks, PhD in mathematics from MIT, proved over 30 years ago that earnings estimate revisions are the most powerful force impacting stock prices. He turned this ground breaking discovery into two of the most celebrating stock rating systems in use today. The Zacks Rank for stock trading in a 1 to 3 month time horizon and the Zacks Recommendation for long-term investing (6+ months). These “Earnings Estimate Scorecard" articles help analyze the important aspects of estimate revisions for each stock after their quarterly earnings announcements. Learn more about earnings estimates and our proven stock ratings at http://www.zacks.com/education/