No matter how bad the economic conditions are, there will always be some industries which are capable of doing well. For instance, since sales of medicines cannot be avoided, the pharmaceutical industry would remain insulated to a large extent from economic upheavals. Hence, investing in one such company may be the safest thing to do.
Drugstore operator Walgreen (WAG, Financial) is one of the key players in an industry which was doing quite well until recently when it lost one of its precious contracts with Express Scripts Holdings (ESRX, Financial). This was a turning point in its journey as the loss had been hampering its performance for the last few quarters and its recently-reported quarter was not an exception.
Though Walgreen got back the contract 2 months back, the effects of the loss are still recurring. Its third quarter results disheartened investors, sending its stock south. Let us understand what has been ailing the company.
What Exactly Went Wrong?
Increased popularity of generic drugs affected the top line, resulting in lower than expected results, since they sell at lower prices. Although revenue jumped 6%, it was quite below the estimate of $19.48 billion. In fact, this has been the trend for quite some time now. Increased sales of generic drugs have been affecting the drugstore’s revenue. However, generic drugs give higher margins and the company is further expected to have expanded margins since higher demand for generics is expected to continue. Also, events such as harsh winters affected its sales for the quarter since many of its stores were closed.
Moreover, loss of Express Scripts’ contract led to migration of customers to other players such as CVS Caremark Corporation (CVS, Financial) which has been reaping great benefits out of it. Also, CVS intends to retain new customers through its marketing initiatives and expects a gain of 12.5 cents per share in its fourth quarter results. Additionally, it was the first drugstore player to launch the loyalty program which is now benefitting Walgreen also.
Even rival Rite Aid Corporation (RAD, Financial) has benefitted largely from the lost deal. This enabled the smaller rival to witness better days and great quarters. Rite Aid posted a top line increase of 2.7%, helped by same store sales growth of 3.1%. The company managed to register a decent performance because of more Express Scripts’ customers coming into its stores and its efforts to retain them. Rite Aid has made endless efforts to hold on to the opportunity by strengthening its marketing initiatives such as remodelling its stores and giving incentives to loyal customers.
Great Things to Ponder On…
Though Walgreen went through a number of problems, there were many good things about the quarter and its prospects. Firstly, the top line performance was better if we exclude the effect of the shift from branded to generic drugs. Also, the basket size surged 2.9% during the quarter.
Another very positive point to note in the quarter was the winning back of Express Scripts’ customers. Walgreen has finally started to get back many of its customers, which it had lost a few quarters back. Even the transaction size of the customers was higher. All thanks to the strategic efforts undertaken by the drugstore chain.
Along with the customer loyalty program, which worked quite well, Walgreen also introduced gift cards that attracted customers to its stores. It has also remodeled many of its stores which resulted in higher customer traffic.
Most importantly, Walgreen’s acquisition of Alliance Boots is expected to start bearing fruit. The acquisition has been a very crucial one. Though it affected Walgreen's bottom line and made investors apprehensive about the decision of getting into the European market in turbulent times, its efforts will finally start paying off. It started reaping the benefits of the buyout should continue to do so in the future. Also, it is enjoying the advantages of its expansion into a new region. This is something to watch out for in future.
The Takeaway
It looks like an end of all miseries and sufferings for the drugstore operator. The company tasted all the bitter flavors during the year and is now ready for a great start. Events such as renewal of Express Scripts’ contract, European expansion, higher promotions and store remodels are all in place and are expected to show great promise in the months to come. This company looks all set for a blockbuster year, which presents an opportunity for investors. I think it’s the right time to invest in this one.
