Walgreen Co (WAG): New Analyst Report from Zacks Equity Research - Zacks Equity Research Report

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Summary:
Walgreens reported a mixed fiscal fourth quarter with in-line earnings and a revenue beat. The company recorded improved revenues on the back of strong prescription sales as well as the company's gaining share in the pharmacy market. We are also looking forward to the second step of strategic collaboration with Alliance Boots. However, Walgreen is weighed down by pharmacy gross margin pressures, recent changes in the environment of pharmacy business, generic drug inflation, reimbursement pressure and a shift in pharmacy mix toward 90-day prescription refills. Competitive landscape also remains tough. In absence of any near-term catalyst to drive the stock up, we downgrade Walgreens to Underperform.

Overview:

Headquartered in Deerfield, IL, Walgreen Co. (WAG), popularly known as Walgreens, is the largest national retail pharmacy chain in terms of revenue and profitability. As of May 31, 2014, Walgreens operated 8,683 locations in all 50 states of the U.S., the District of Columbia, Puerto Rico and Guam and the U.S. Virgin Islands, including 8,217 drugstores (120 more compared with the year-ago period). The company also operates infusion and respiratory service facilities, worksite health and wellness centers, specialty pharmacies and mail service facilities. Its Take Care Health Systems subsidiary manages more than 700 in-store convenient care clinics and worksite health and wellness centers. Walgreens' e-commerce business includes Walgreens.com, drugstore.com, Beauty.com, SkinStore.com and VisionDirect.com.

The drugstores, apart from selling prescription drugs, also sell over-the-counter (OTC) medications, general merchandise, cosmetics, toiletries, household items and food and beverages. Due to carefully selected locations, the stores offer easy accessibility with many of them remaining open for 24 hours. The company ensures robust traffic in the stores by offering a broad selection of consumable merchandise backed by strong advertising programs.

In Aug 2012, Walgreens had entered into a strategic partnership with a global international pharmacy-led health and beauty group Alliance Boots GmbH, in which it acquired a 45% stake for $6.7 billion. The company also has the option to obtain 100% ownership over the next three years for an approximate value of $9.5 billion in cash and stock.

In Oct 2013, Walgreens and Alliance Boot arrived at a long-term and strategic relationship with AmerisourceBergen. As per the agreement, Walgreens and AmerisourceBergen have successfully begun implementing their 10-year agreement for pharmaceutical distribution from early Sep 2013. AmerisourceBergen has also teamed up with Alliance Boots and Walgreens under a three-pronged agreement that underlines a strategic collaboration, equity alignment and distribution agreement.

Generic: The Current Scenario The ongoing introduction of prescription drugs in the generic market is changing the mode of patient care which affects the business of drug retailers like Walgreens. This is because the retail price of generic drugs is lower compared to that of brand name drugs. Moreover, over the past year, inflation in generic drug cost has adversely affected Walgreens' margin. While the introduction of generics has notably dragged sales over the last few quarters, the company expects the gross margin to improve in the ongoing fourth quarter. Management expects the rate of generic drug introduction to rise in the fourth quarter, to the point that it shall no longer have any negative impact on Walgreens' margin.


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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



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