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Walgreen Co. (WAG) Presented April 19, 2007
Investment Managers • Jessica Boghosian • email@example.com • Shengdong Zhu • firstname.lastname@example.org
Company Overview • Incorporated in 1909, headquartered in Deerfield, Illinois. • Nation’s largest drugstore based on sales • Engaged in the retail sale of prescription and non-prescription drugs and general merchandise including: beauty care, personal care, household items, candy, photofinishing, greeting cards, seasonal items, and convenience foods. • Recorded its 32nd year of consecutive earnings and sales growth. • During the year, Walgreen Co. had a net increase of 476 stores, totaling to 5,461 stores located in 47 states and Puerto Rico.
Company Overview • Success is dependent upon continuously opening new Walgreens stores. • Walgreen Co. plans to operate more than 7,000 stores by 2010. • Walgreen Co. is in the business of strategically locating new stores as well as relocating/closing existing stores.
New Walgreens Co. Stores • Over the past 7 years, Walgreen Co. has opened on average 1.28 stores/day.
National Store Distribution • Walgreen Co. has made it a point to open the most stores in the states that are the popular locations for aging baby boomers to retire. Image: Walgreen Co. Annual Report 2006
Pharmacy Sales • Pharmacy sales continue to become a larger portion of Walgreens’ business. • Walgreens filled 529 million prescriptions in 2006, totaling to an increase of 8.1% from the 2005 fiscal year. • Sales trends are expected to continue to grow for the following reasons: • Aging population • Introduction of lower priced generics • Continued development of innovative drugs
Medicare Part D • Medicare Part D is a government initiated program to subsidize the costs of prescription drugs to individuals covered by Medicare. Part D was implemented in January of 2006. • Walgreens has obtained a larger share of senior citizen patients due to this program. • 35% of the prescriptions filled under this program in the first eight months were new customers to Walgreens.
New Developments • Dial-a-Pharmacist • Available in 14 languages, this system allows customers to discover where there is a Walgreens pharmacist that speaks his or her language. • Solar Power Usage • 100 stores utilize solar energy, making Walgreens the largest retail user of this source of energy. • Highway Signs • A new federal law allows signs to be placed on highways informing drivers of the location of 24 hour pharmacies. Several have already been planted with many more to come. Source: Walgreen Co. Annual Meeting, January 2006
Corporate Risk • Walgreen Co. faces intense competition with local, regional, and national companies, many of which are infiltrating Walgreens’ existing markets. • Extreme competition can have an adverse affect on prices. • Third-party payors of prescription drugs are attempting to reduce costs and pharmacy reimbursement rates. • On February 8th, 2006, President Bush signed the Deficit Reduction Act of 2005 • This Act will ultimately reduce Medicaid reimbursement rates to retail pharmacies. • Further reduction in these rates are foreseeable.
RCMP Position • Originally owned 1000 shares of WAG, purchases on October 6th, 1999 for $25.00/share. • On September 20th, 2006, 500 shares were sold @ $49.94/share for a realized gain of $12,470. • Currently own 500 shares of WAG, trading at $45.96 as of April 19, 2007 for an unrealized gain of $10,480 or 83.84%.
Role in Portfolio • Walgreen Co. currently comprises 7% of our portfolio.
Competitors • Who • CVS/Caremark Corp. (CVS) • Rite Aid Corp. (RAD) • Why • Industry Specific • Business Segment Specific (prescription and non-prescription drugs and general merchandise)
Out-performing Its Competitors • Prescription Volume Source: Walgreen Co. Annual Meeting, January 2006
Out-performing Its Competitors • Earnings per square foot Source: Walgreen Co. Annual Meeting, January 2006
Assumptions • Organic growth continues to be the primary growth vehicle • Future growth was estimated assuming to be in line with increasing medical costs and increasing store numbers. • We assume that future growth will continue at a 13% annual rate but will gradually decrease to 9% over the next five years and then remain at a 3% annual growth rate thereafter
Discounted Cash Flow Analysis • Since Walgreen Co. is 100% equity financed, WACC=ke. • Beta: Regression 0.1 vs. Bloomberg .66 • Average = .4
A Note On Capital Structure • Walgreen Co. is an all equity financed firm. • The company owns a mere ~18% of it’s store base. The other ~82% is leased. • These leases hold Walgreen Co. responsible for $26.078 billion, but this obligation is not seen on the balance sheet as a liability to the firm. • This poses potentially risk to Walgreen Co. • Lets call these lease obligations “quasi-debt.” • THEREFORE, it is important to keep in mind this accounting structure when valuing WAG.
Sensitivity Analysis Most likely to range from 34.73 to 57.04
Portfolio Fit • Sharpe Ratio • a measure of the mean excess return per unit of risk in an investment asset or a trading strategy • Including WAG generates a higher Sharpe Ratio
RCMP Fall ’06 Decision • 500 Shares of WAG were sold last semester at $49.94. Why? • Lease Obligations • WACC was adjusted upward based on the risk of outstanding lease obligations • After this adjustment, the company appeared to be trading at a “significantly inflated price that, in the long term, could not be sustained.”
Recommendation • HOLD. • Why? • Healthy management vision • Stable, growing company • Solid performer • Leader in its class • But what about these lease obligations and other business risks!? • Acknowledge that every company has risk, with Wagreen Co. as no exception. • We have already taken action as conservative investors by selling 500 shares.