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Morningstar | Walgreens' 2Q Misses on Negative Reimbursement Trends and Soft Retail Volume; Guidance Lowered

No-moat Walgreens Boots Alliance reported quarterly results that fell short of our expectations, with revenue and EPS both light because of lower-than-expected reimbursement, soft U.S. retail volumes, and U.K. market conditions. These factors were exacerbated by the lapping of an especially strong flu season in the prior year. In light of year-to-date performance, management lowered guidance for the year. We believe the poor performance provides further support for our no-moat rating for the firm.

For the second quarter, revenue grew 4.6% year over year (6.7% on a constant currency basis) to $34.5 billion, while organic sales (excluding acquisition of Rite Aid stores) grew 2.5%. U.S. retail pharmacy sales increased 7.2%, or 1.6% on an organic basis. Despite the 90-basis-point increase in market share (to 22.3%) and 6.4% increase in overall prescriptions (30-day adjusted basis), comparable same-store sales and prescriptions for pharmacy grew only 1.9% and 1.8%, respectively. Retail sales increased 1.3% overall, but declined 3.8% on an organic basis. Overall increases in pharmacy volume were more than offset by lower gross margins and operating income and normalized EPS declined 23.3% and 5.2%, respectively. Management continues to repurchase shares, driving the share count down 6.5%.

The midpoint of EPS guidance for fiscal 2019 of $5.90-$6.14 is roughly 6% below consensus estimates of $6.42 and prior guidance of 7%-12% growth. Management anticipates low to mid-single-digit growth in fiscal 2020 with the implementation of internal initiatives to offset reimbursement pressures and to increase volumes. Longer term, management will invest roughly $1 billion over three years to transform stores into destinations with improved digitization and product offerings (40% toward digitalization). Further, cost management initiatives and store optimizations are anticipated to contribute $1.5 billion in annual savings by 2022.