With Tuesday's earnings announcement, the shares of Walgreen (WAG) were treated most unkindly tumbling by almost 6%. With the market showing strong gains Tuesday, I decided to investigate further to see if the selloff is an overreaction or a sign of further weakness ahead.
WAG reported "non-GAAP adjusted net earnings for this quarter were a record $812 million, or $0.85 per diluted, to adjusted net earnings of $628 million, or $0.72 per diluted share in the second quarter last year." At first glance the numbers seem impressive. Net earnings jumped roughly $200 million dollars. Surely, the company is on solid footing.
Drilling further down into the numbers we see that,
Our script comp for the quarter was 7.1%, compared to 5.7% in the second quarter. We gained 80 basis points in market share, from 18.4% to 19.2%. 90-day prescriptions continue to grow, increasing 19% year over year, while [IMS] continue to report slowing growth of mail.
All this comes in an environment where physician visits are down 2.7% year over year in May, according to JPMorgan's monthly tracker, and this follows year over year declines February through April.
Script count, a metric used to determine the health of the pharmacy business is showing tremendous growth which augurs well for the future health of the company. Particularly impressive is the roughly 1% market share gain. WAG needs to continue to win back the business lost during the messy Express Scripts (ESRX) battle that was waged last year.
So far everything seems to indicate the company is progressing nicely. As the conference call progressed, the following metrics were broken down further painting a far less rosy picture of the company's performance.
Let me now provide more detail on our comparable store sales for the quarter. Comp prescription sales increased 2%. Comp front-end sales increased 0.4%. Total comp sales increased 1.4%, and comp prescriptions filled increased to 7.1%, versus a script comp of negative 9.1% in the year ago period.
With respect to our front end, in the third quarter the front end comp increased 0.4%, and traffic decreased by 3.9%, while basket size increased by 4.4%. We see stable front end margins in the challenging promotional environment.
Script volume was up 7% however due to introduction of cheaper generics net comp sales advanced only 2%. A 2% sales bump in the pharmacy is hardly inspiring. The company saw a roughly 4% decrease in store traffic which to me is the most alarming stat. It seems to me the company wasn't as promotional as it should have been to draw the customers in. Perhaps, management was distracted by the ongoing transformation of the company from a US based drugstore chain to a more international player.
Luckily, in my view the problems can be addressed and rather quickly. WAG needs to become more promotional to build front end sales and drive store traffic. Once in the store they need to transition over as many customers as possible to both front end and RX customers. The prescription business seems to be healing itself as witnessed by the market share gains.
Today's selloff has knocked WAG off its recent stellar run. I would wait to see if further weakness will hit the shares and perhaps draw them into the $40-$42 range which would in my opinion be an opportune time to invest. At that level the shares would be trading at less than 15 times this year's earnings with a dividend yield of roughly 2.5% plus. That above mentioned price range would be fair for a well run retailer with a stable growing business model. Thanks for reading and I look forward to your comments.
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