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A growing aging population in the US, rising disease prevalence and expanding insurance provided by the Affordable Care Act has strengthened the pharmacy industry. This trend is seen in the sales growth of Walgreen (WAG), during the first quarter of fiscal year 2014. The company is going to announce its first quarter results next week and due to its solid top-line performance, I expect that it will also report solid net earnings.

Revenues

The company's revenues in the first quarter of FY14 jumped to $18.36 billion compared to $17.31 billion in the first quarter of FY13 reflecting a 6.07% increase YoY. The sales in September, October and November increased 8%, 6.1% and 4% respectively compared to the results of the same months of the previous year. A meaningful increase in promotional investment contributed to the improvement in traffic and comparable store front-end sales for the first quarter of 2014. The company opened 53 new stores, completed 21 relocations and closed four stores in this quarter and these also contributed to the positive growth in Walgreen's sales.

The pharmacy sales increased by 7.63% and accounted for 64.7% of the company's total sales for the quarter. The total comparable prescriptions filled at comparable stores were positively impacted by calendar-shift days whereas the October and November sales were negatively impacted from calendar-shift days. However, on a calendar-adjusted basis the prescriptions filled at comparable stores increased by 5.6%.

In the last 12 months, Walgreen has introduced generic drugs which negatively impacted total comparable sales by 0.6% because the generic drugs are priced lower than branded drugs.

Forecasted Margins

The company's gross margin is projected to expand this quarter due to higher pharmacy sales and the introduction of generic drugs. The pharmacy sales provide higher retail margins whereas the generic drugs incur lower costs and offer around 50% higher gross profits than branded drugs. These factors would partially offset the impact of the lower market driven reimbursements.

The general, selling and administrative expenses in this quarter will be higher due to the higher salaries required for the workforce of newly-opened stores. Increased promotional activities in November are another reason behind the increases in operational expenses.

The company reduced its debt in the last two quarters of FY14 and there is no news that it incurred new debt this quarter, so I assume that the company's interest expense in this quarter will be lower compared to the first quarter of FY13.

The higher revenues along with improved gross margin and lower interest expenses would expand the company's adjusted net margin as a percentage of sales. According to my calculations, the adjusted net margin would be around 3.8% of the total sales compared to 2.39% of the total sales in 1QFY14.The company has repurchased more than $1 billion worth of shares in the last year so this would definitely increase the per share earnings of the company's investors in this quarter.

Dividends and Share Buy Backs

Walgreen has a very good history of paying dividends. In the last 13 years, the company's dividends have grown every year at a CAGR of 17.5%. Now, the company's board of directors declared a regular quarterly dividend of $0.315 per share reflecting a 14% increase as opposed to the dividend share from last year that was $0.275 per share. The dividends will be paid on December 12, 2013. The recent hike marks the 38th successive year of dividend increases for the company.

Walgreen has also started a new share repurchase program that will run through 2015. Under this program the company will buy back $2 billion worth of stocks.

Acquisition

The company is taking several initiatives to further expand its revenue base. Last month, it completed the acquisition of certain assets of Kerr Drug's retail drugstores and specialty pharmacy business. Kerr Drug currently provides services in many of its stores that exceed the traditional drug store mix. The acquisition will help Walgreen to expand its customer base and gain a foothold in the market. Kerr Drug recorded total sales of $381 million in fiscal year 2012 which constituted around 2.1% of Walgreen's last fiscal year's total sales. We can expect that Walgreen's future sales will grow by approximately 2% due to the acquisition.

The retail pharmacy segment provides higher margins than the other segments so the acquisition would enable Walgreen to improve its gross margin in the future as well.

Portfolio Expansion

The company has further expanded the scope of its services by introducing daily health testing for cholesterol, blood glucose and body composition. The services would be available in more than 60 stores in Maryland without appointments. The blood pressure test will be provided free with every health test.

On the recommendations of health associations the trend of having regular health tests is increasing in the population of those 18 years and older. As the demand for these services increase Walgreen continues to conveniently provide them. This portfolio expansion would raise the demand for the company's services and add growth to its future revenues.

Final Thoughts

Walgreen has shown strong growth in its top line performance in the third quarter and considering the facts presented, I expect better margins and per share earnings in this quarter on a yearly basis. The company concentrates on providing value to its investors both through dividend payments and share buy backs.

The rising demand for generic products in the US, the expanded portfolio and the acquisition of Kerr Drug will help the company add extra growth to its sales in fiscal year 2014. It also intends to create more value for its shareholders by investing in strategic growth opportunities and reinvesting in core strategies.

Bearing these facts in mind, I believe that the company's stock will be a profitable investment for investors.

Source: Walgreen: The Recent Events Are Playing Out In Favor Of The Company