) reported earnings of 62 cents per share in the third quarter of
fiscal 2012, in line with the Zacks Consensus Estimate. However,
reported earnings lagged the year-ago earnings by 3 cents. The
company witnessed a negative impact of 6 cents related to the
non-renewal of the
) contract and 1 cent per share in charges associated with the
company's latest agreement with Alliance Boots GmbH, a global
international pharmacy-led health and beauty group. The year-ago
quarter result included a negative impact of a penny in
restructuring and restructuring-related costs associated with the
company's Rewiring for Growth initiative.
Walgreen reported a 3.4% year over year decline in total sales
of $17.8 billion in the reported quarter, missing the Zacks
Consensus Estimate of $17.9 billion. Front-end comparable
store sales (those open for more than a year) during the quarter
decreased 2.6%. Customer traffic in comparable stores declined 6.6%
and basket size increased 1.7%.
Prescription sales, accounting for 62.9% of sales in the
quarter, declined 6.6%, while prescription sales at comparable
stores were down 9.9%. Moreover, during the quarter, Walgreens
filed 192 million prescriptions (down 8.4% year over year) while
prescriptions filled check spelling at comparable stores dropped
Partnership with Alliance Boots GmbH
Walgreen and Alliance Boots have decided to form a strategic
partnership to become the world's first pharmacy driven health and
wellbeing retail with more than 11,000 stores in 12 countries.
Additionally, they will create a global major in pharmaceutical
wholesale and distribution network with over 370 distribution
centers catering to 170,000 pharmacies, doctors, health centers and
hospitals across 21 countries. Furthermore, it will also be
considered as the largest purchaser of prescription medicines and
many of the health and wellbeing products.
Walgreen's primary plan is to invest $6.7 billion in cash and
stock ($4.0 billion in cash and 83.4 million shares) to acquire a
45% equity interest in Alliance Boot. However, the company holds
the option to acquire the remaining stake over the next three years
for approximate value of $9.5 billion in cash and stock. The
valuation is based on the current share price of Walgreen,
present exchange rate ($1.55=£1) and the then outstanding
debt level of Alliance Boots. The company expects the initial
investment to be completed by September 1, 2012.
Walgreen expects the first step of this transaction to be
accretive to its EPS by 23−27 cents in the first year. The company
also expects the synergies across joint operation to be between
$100 million-$150 million in the first year and $1 billion by the
end of 2016..
Gross profit in the quarter decreased 2.7% year over year to
$140 million leading to a 15 basis points (bps) contraction in
gross margin to 28.2%. The pharmacy profit margins were impacted by
generic drug sales, partially offset by market reimbursements,
specialty pharmacy mix and LIFO. Front-end margins, however,
remained stable year over year on the back of positive impact from
convenience and fresh foods, household items and inventory offset
by E-commerce mix. During the quarter, there was higher LIFO
provision ($60 million) compared to the year-ago level of $50
Selling, general and administrative (SG&A) expenses
decreased 1.6% year over year to $62 million, including a 0.6%
downside in operating and integration costs in drugstore.com, which
was acquired in June last year. Operating margin during the quarter
contracted 27 bps to 4.9%.
At the end of the quarter, Walgreens had $1.99 billion in cash
and cash equivalents, compared with $2.65 billion at the end of May
2011. Year-to-date, the company's net cash provided by operating
activities were $3.66 billion.The company also declared a 22.2%
increase in its quarterly dividend to 27.5 cents per share, payable
on September 12, 2012.
The termination of the Express Scripts contract continues to
affect Walgreen's performance. Also, the company has been
adversely affected by high unemployment levels and lower
discretionary spending over the past few quarters. However,
Walgreen is currently working toward establishing itself as a
leading provider of pharmacy, and health and wellness solutions.
The company has been taking steps over the last few years to align
its assets. We are encouraged by Walgreen's recent strategic
decisions, the latest being with Alliance Boots GmbH.
On a long-term horizon, we are optimistic about Walgreens. The
introduction of new generics should help improve the company's
gross margins in the second half of fiscal 2012. Moreover, a strong
cash balance enables the company to reward its shareholders.
Currently, Walgreen retains a Zacks #3 Rank (short-term Hold
rating). We have a 'Neutral' recommendation on the stock over the
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