Analyst: Retail focus key to keeping Walgreens competitive
Walgreens kicks off its new fiscal with a mixed set of results. Overall sales are strong, aided by the integration of 375 Rite Aid stores and a robust performance from the U.S. retail pharmacy division. This growth was sufficient to make up for the slightly disappointing numbers from the international group, where same-store sales fell by 0.7%. Meanwhile, impairments in investments and an equity loss from earnings in AmerisourceBergen helped pushed down net income by 23%.
Just like the results, our views on Walgreens are also mixed. On the positive side, we believe that the core business is currently healthy and that initiatives like AllianceRx Walgreens Prime are helping the company to drive prescription volumes. We are also optimistic about the sales line, mainly because of the uplifts which will come from the integration of Rite Aid stores. Admittedly this benefit will accrue gradually as the full amalgamation of Rite Aid assets is not expected to complete until the end of fiscal 2020.
On the negative side, we are concerned about the competitive outlook following the announcement of the merger between CVS Health and Aetna. In our view, this has the potential to disrupt the industry and gives CVS a major advantage in the provision of healthcare, health advice, and health products. Ultimately, this increases the long-term risk of Walgreens losing market share across a number of health and prescription categories.
Fortunately, Walgreens has time to address this emerging competitive threat. However, its response needs to be far more comprehensive than merely relying on adding Rite Aid stores to generate growth. A much deeper review of how to expand services, improve loyalty, and increase customer share of wallet is required.
A good starting place is the retail side of the business. While this is an area of relative strength for Walgreens compared to CVS, the numbers remain disappointing. This quarter, front-of-store retail sales decreased by 2.8%, and comparable equivalents fell by 0.9%. Admittedly, behind these headlines, Walgreens is making some progress in beauty and health, but not by nearly enough to offset declines in categories like consumables and general merchandise.
We believe that the company has the potential to do a great deal better in retail, and as a first step should find ways of competing more effectively with high-growth beauty retailers like Ulta and Sephora. With the firepower of its own brands, like No. 7, behind it, Walgreens is in a unique position to create a compelling proposition. We do recognize the efforts made to date, but also think the execution in stores is somewhat lackluster. Away from beauty, reconfiguring the general merchandise offer is also necessary.
As much as retail is a start-point, it is not a complete defensive solution. Walgreens also needs to assess how it can deliver a better experience on the health side of the business. CVS and Aetna have talked about creating an Apple-style Genius Bar in stores – this is the type of thing with which we believe Walgreens should experiment.
Ultimately, Walgreens is not a bad business and, at present, we still see it as a much better retailer than CVS. However, this position has partly been achieved by default. That is now changing, and the market is set to evolve rapidly. Against this backdrop, Walgreens needs to be more innovative, more experimental, more customer-centric, and much faster in driving change.