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Analyst Blog

Recently, Walgreens (WAG - Analyst Report) discussed the current business environment and provided valuable insight into its future operations.  

According to the company's conference call, while its pharmacy business continues to gain a strong foothold, the revenue contribution of the franchise might slowdown on account of the generic wave in the pharmaceutical industry. In the interim, Walgreens plans to revive growth of its front-end stores to achieve balanced growth.  

Walgreens recorded robust gross margin expansion in the first quarter of fiscal 2013. The company expects the trend to continue in the near term on the back of introduction of generics. Management asserted that the generic wave should significantly increase Walgreens’ gross profit per script compared to the gross margin, which it earns on brands.

Despite the efforts of its competitors, Walgreens is winning back new Express Scripts (ESRX - Analyst Report) customers. Although the company is leaving no stone unturned to compensate for the losses incurred since the termination of the previous deal, winning back clients remains crucial. Walgreens is optimistic about further client wins in the near-term. We also note that the plan to achieve synergies from the Alliance Boost deal is on track.

Walgreens’ Balance Rewards loyalty program is gaining traction and has recorded more than 50 million registrations to date. As per management, it is generating approximately 50% of the company’s sales.

Walgreens does not expect capital expenditure in the medium-term to be materialistically different from the recent past. Moreover, the company plans to review its capital deployment strategies instead of using its cash to repurchase shares. Meanwhile, Walgreens will continue to reward its shareholders with dividends as it is positioned on a dividend growth track. These efforts underline the company’s focus to attain a healthy investment grade rating.

Our Recommendation

While the generic wave is expected to improve gross margin for Walgreens, it continues to hurt sales. Despite a broad-based platform to support growth, macroeconomic headwinds remain a looming concern.

However, we are encouraged by Walgreens’ efforts to establish itself as a leading provider of pharmacy, and health and wellness solutions. In the long term, we prefer to remain on the sidelines and maintain our long-term Neutral recommendation on the stock, which carries a Zacks Rank #3 (Hold). Its peer, Rite Aid Corporation (RAD - Analyst Report) carries a Zacks Rank #1 (Strong Buy), while CVS Caremark (CVS - Analyst Report) carries a Zacks Rank #2 (Buy).
 

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