Walgreens Boots Alliance closed its second quarter with weak results, missing goals set by the retailer and forcing it to lower guidance for the rest of FY2019. Sales grew 4.6% versus a year ago and 6.7% on a constant currency basis to $34.5 billion, but operating income and net earnings slid, declining by 23.3% and 14.3% respectively. Sales in the Retail Pharmacy USA segment rose 7.3% but was dragged down by falling gross profit and operating margin. The Retail Pharmacy International segment continues to be a weak point, decreasing by 1.2%, as Boots remains a struggling business.
With its investors alarmed, WBA’s senior leadership team spent most of the call laying out an action plan to turn around its business. Here are a few key takeaways:
Headwinds batter Walgreens’ business. CEO Stefano Pessina was quick to state that none of the challenges troubling Walgreens’ business should come as a surprise – several of these issues have plagued the drug channel for several years now. Alongside consistent problems like lagging retail sales, Walgreens faced increased reimbursement pressure, higher generic deflation, lower brand inflation, and lower-than-anticipated benefits. With high drug costs now a bipartisan issue in Washington, it’s unlikely that the retailer will find relief in these traditionally high-margin revenue streams.
Walgreens retail woes continue. With Walgreens’ position in the prescription drug space relatively tenuous, the retailer will need to look to its retail segment for supplementary growth. Unfortunately for Walgreens, Q2 marked another weak quarter for the retail segment, with comparable sales at -3.8%. In his segment of the call, Global CFO James Kehoe highlighted several likely culprits: a less profitable cold & flu season following a strong prior year, tobacco deemphasis (calling to mind memories of CVS’s struggles following its exit from the category), and a weak quarter in seasonal and gifting. In a nod to efforts made by that certain large drugstore chain based in Rhode Island, Co-COO Alex Gourlay believes that Walgreens can begin to raise itself from its front-store blues with investment in higher-margin health & wellness categories. Interestingly, Gourlay also mentioned how his team is looking to further Walgreens’ partnership with Kroger.
Despite turbulence, Walgreens’ existing priorities remain key. With so much less-than-positive news, how is Walgreens Boots Alliance trying to right the ship? Seeking to calm Wall Street and reinforce confidence in his company’s strategy, Pessina asserted the importance of Walgreens’ four priorities: accelerating the digitalization of the company, transforming and restructuring its retail offering, creating a neighborhood health destination around a more modern pharmacy, and rolling out its Transformational Cost Management Program.
On digitalization, Gourlay had much to say, but little concrete to share. Beyond mentioning new digital-focused additions to Walgreens team and the recently-announced partnership with Microsoft, he praised Walgreens’ customer-facing digital platforms, with the app having been downloaded over 55 million times and 85 million active Balance Rewards members.
The other priority which received significant airtime was Walgreens’ Transformational Cost Management Program. The retailer is making significant progress on the program, introducing optimization schemes across its network, but one has to wonder how this focus on cost-cutting may handicap Walgreens’ strategy to get back on its feet. Despite the positive buzz around its numerous partnership partnerships, negative announcements continue to cloud Walgreens: the retailer recently laid off 20% of its central Boots UK workforce, and it plans to close another 150 of its acquired Rite Aid stores (bringing the total to 750 of 1932). Is a slimmer and less expensive organization really the answer to a store network in need of investment?
With the PBM space under fire in Washington, drug prices a hot button issue, Medicare network losses mounting, and declining traffic and front store sales, Walgreens is entering a turbulent period with a somewhat scattered investment plan. To quote a certain most popular HBO show, winter is coming.
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Ben Antenore, Analyst