Retail Pharmacy Stocks, A Good Investment As Affordable Care Act Nears

Includes: CVS, ESRX, WBA
by: Glen S. Woods

In 2012 the United States accounted for $330 billion of the estimated $970 billion retail pharmaceutical sales by the global pharmaceutical industry, up from $227.5 billion in 2011. Americans filled more than 4 billion prescriptions at 62,000 retail, mail and specialty pharmacies, and with the Affordable Care Act, expanding healthcare coverage allowing for more patients access to medicines, the U.S. retail pharmaceutical industry should see a dramatic increase in revenues in the coming years. The bulk of the new patients are expected in 2016 through the Government's Medicaid insurance program for low-income people.

With sales expected to continue to rise, it's no wonder that it seems like every supermarket, warehouse store, and bulk retailer now has a pharmacy, while every pharmacy seems to have turned into a convenience retail store. The three largest retail pharmacies, CVS Caremark Corp. (NYSE:CVS), Walgreen Co. (WAG), and Express Scripts Holding Company (NASDAQ:ESRX), which acts as a middle man between drug makers and employers, accounts for over half the prescription drugs filled in the United States. The mass merchandiser, Wal-Mart Stores (NYSE:WMT), with its Sam's Club now accounts for 6.5% of the retail prescriptions filled, followed by the drug store chain Rite Aid Corp (NYSE:RAD) at 6.4%. Small chain pharmacies, including such pharmacies as the Florida based Progressive Care, Inc. (OTCPK:RXMD) and the growing pain medication specialists, Assured Pharmacy, Inc. (APHY.OB), captured 12% of the market. With the Affordable Care Act soon to play a prominent role, the future for many of the drug retailers looks healthy as the companies expand their presence in both size and products, making them strong investments in one's portfolio.


Walgreen Co., with its 8,383 outlets, is the second-largest U.S. retail pharmacy. In fiscal 2012 the company's net sales were $71.6 billion. WAG filled 785 million prescriptions, which brought in $42.8 billion in sales. Prescription drugs accounted for 63% of total sales in fiscal 2012, while general merchandise brought in 25%, and nonprescription drugs were 12% of the sales. However, WAG saw its percentage of the retail prescription drug market fall from 20% of the market in 2011 down to 18.7% in 2012, largely due to lost customers in June when WAG and Express Scripts parted ways due to a disagreement over payment terms. Millions of customers with Express Scripts drug plans were forced to find another pharmacy to fill their prescriptions.

The second half of 2012 looked more optimistic for WAG as the short-lived rift with Express Scripts ended. On September 15, the two companies came to terms and resolved their differences, and the customers of Express Scripts were able to buy their drugs again from Walgreen. Further strengthening its buying power, in June WAG formed a strategic alliance with the large European pharmacy retailer, Alliance Boots GmbH, acquiring a 45% stake in the company for $6.7 billion, allowing for both companies to extend their worldwide reach. The deal created the world's largest drugstore and pharmacy retailer, now having more than 11,000 stores in 12 countries, with a wholesale pharmaceutical business in 21 countries.

WAG continued its busy second half of 2012 when it jumped ship from its drug distributor, Cardinal Health Inc. (NYSE:CAH), and agreed to a 10-year distribution agreement with the giant pharmaceutical wholesaler, AmerisourceBergen (NYSE:ABC). The agreement also allows for WAG to purchase up to a 7% stake in ABC in the open market, plus equity warrants that are exercisable for an additional 16% stake in the company. The deal provides ABC with access to generic drugs and related pharmaceutical products through the Walgreen - Alliance Boots joint venture, giving ABC the opportunity to grow its specialty and manufacturer services businesses both domestically and internationally. In 2014 ABC will assume distribution of generic products that WAG has previously self-distributed.

WAG is a $44.9 billion market cap company, and though it hit a rough patch in 2012 with the stock hitting a 52-week low of $28.53 per share, it has since rebounded strongly, rising over 25% YTD, due in part to its new agreements and alliances. For the fiscal second quarter that ended on February 28, WAG reported net income of $756 million, or $0.79 per share, up from $683 million, or $0.78 per share, in the previous year's quarter. WAG stock closed on Tuesday March 26, at $47.57 per share. On March 20, Goldman Sachs analyst, Matthew J. Fassler, downgraded WAG from a "conviction list buy" to "buy," while raising the price target from $46 to $50 per share. Also on March 20, Citigroup raised WAG from a "sell" to a "buy" and upped its price target from $32 to $51 per share. WAG's aggressive moves last year strengthened the company's future in the retail pharmacy business, not just in the U.S. but globally.


CVS Caremark Corp is the largest United States drug retailer. In 2012 CVS filled an estimated 990 million drug prescriptions at its over 7,400 retail pharmacies. CVS estimated chain store sales of prescription drugs totaled $63.1 billion, $43.7 billion from pharmacies and $19.4 billion from mail for a combined total of 22.8% of the market. CVS benefited well from WAG's exit from Express Scripts as it saw more than 5 million WAG customers move their prescriptions to CVS. However, with WAG back with Express Script, the question remains, will the WAG customers return? CVS expects to retain about 60% of ex-WAG customers.

What could be considered gearing up for the implementation of The Affordable Care Act, CVS plans to open between 100 to 200 new CVS pharmacies per year, while the company continues to add to its 640 MinuteClinics inside its retail pharmacies, with plans to expand to more than 1,000 in the next three years. MinuteClinics, which are staffed by nurse practitioners and physician assistants, provides basic medical services to walk-in patients without the need for a prior appointment. MinuteClinics should be a boost to CVS' revenue considering that the volume of insured patients is expected to increase significantly starting in 2014, under the provisions of the Affordable Care Act, which could log jam doctors with a deluge of new patients.

CVS is a $67.95 billion market cap company. For 2012 the company saw revenues of $123.13 billion with earnings of $3.88 billion, or $3.03 per share. CVS expects 2013 adjusted earnings to rise between $3.86 and $4.00 per share, in line with analysts' prediction of $3.92 per share. Year-to-date the stock has risen over 14%, and closed on Tuesday March 26, at $55.29 per share, a little over a dollar below its 52-week high.


With an aging population and Affordable Care just around the corner, the retail pharmaceutical business will continue to expand. While the big box pharmacies all seem to have bright futures, I also look for some of the smaller boutique pharmacies to find success by carving out a niche specializing in groups of medicines that the larger chains would rather avoid, like Assured Pharmacy Inc., an expanding four-store pharmacy, which focuses on the $30 billion dollar pain business where many of the drugs are heavily regulated, especially schedule II narcotics. Both CVS and WAG are strong, profitable, and growing companies, where customers can fill their prescriptions and buy a gallon of milk. I like both companies; they have excellent dividends and low risk, and in the coming years should continue to grow. I also like Express Scripts because with its contracts with large employers it has a built in clientele. What I like that it doesn't have is storefront exposure saving the company the lease costs that CVS or WAG have, thus it has a lower overhead.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.