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Morningstar | Walgreens Reports Positive Fiscal 3Q Despite Numerous Moving Parts; Guidance Reiterated; FVE $68

Narrow-moat Walgreens Boots Alliance reported quarterly results that were ahead of our expectations, helped by stronger prescription volumes and accelerated share repurchases. Despite higher volumes, gross margin was slightly shy of our expectations due to the increasing mix shift toward central pharmacy and branded drugs, which generate lower margins. Overall reimbursement appears to have stabilized, as the company is benefiting from better performance on value-based contracts and expansion into narrow networks. Results reinforce our thesis that the company will be able to leverage scale and foster beneficial partnerships to better utilize its stores, abate commodity pricing pressure, and offset negative reimbursement trends. We maintain our $68 fair value estimate. Shares are up nearly 5% from the improving operating trends.

For the third quarter, revenue grew 0.7% year over year (2.9% on a constant currency basis) to $34.6 billion. U.S. Retail pharmacy sales increased 2.3% and international sales declined 7.3%, largely due to continued currency headwinds of 570 basis points. Due to the company’s store optimization initiative, market share declined 50 basis points to 21.2%. Adjusted prescriptions increased 1.9%, while comparable same-store sales and U.S. prescriptions grew 6.0% and 4.7%, respectively. Front-end sales decreased 2.9% and declined 1.1% on a same-store basis, largely due to store optimization. Strong central fill growth of 8.6% and increasing branded drug volumes negatively impacted gross margins, which were 21.9% of sales. Despite the lower gross margin from the shift in mix, increases in volume, initial progress on the company’s cost initiative, and an accelerated share buy back enabled Walgreens to report normalized EPS of $1.47 or $0.03 better than our expectations. Management continues to repurchase shares, driving the share count down 8% year over year.

Walgreens reiterated guidance, including anticipated headwinds of $0.10 from the timing of expenses. Management was hesitant to provide color beyond 2019 but offered positive color on the tracking of cost savings and partnership initiatives. Longer term, the company continues to make investments to transform stores into destinations with improved digitization and product offerings.