Presentation on theme: "Walgreen Co. (Walgreens Boots Alliance)"— Presentation transcript:
1Walgreen Co. (Walgreens Boots Alliance) Ricky Fang, Jacob Stoiber, & Kevin FarshchiPresented October 30, 2014
2Agenda Investment Thesis Macroeconomic Overview Industry Analysis Walgreen & Its BusinessCatalysts & Concerns (SWOT)Financial AnalysisValuationRecommendation
3Investment ThesisWalgreens Boots Alliance is likely to become the principal retail pharmacy in the worldOur team is confident that recent financial results, merger valuation, and strategic initiatives demonstrate Walgreen is an attractive holding in the long term.Granted, there is a chance the next few quarters/years may experience some tough adjustments and potential volatility, we are optimistic that long-term shareholders have an opportunity for increasing return on invested capitalThe recent sales increases in conjunction with a strong balance sheet indicate that Walgreen is in a solid financial position to create opportunities for growth through its strategic acquisition of Alliance BootsIn conclusion, if we apply proper valuation and identify mispriced businesses, the market should agree with us in the long term and price should reflect fair value.
4Transaction History & Current Position Original purchase: 1000 $25/share; Date purchased: October. 6th (Cost basis: $ 25000)Action 1: 500 shares 49.94/share; Date sold: September 20th, 2006Action 2: 200 shares 60.35/share; Date sold: November 22nd, 2013Current position: 300 shares trading at $62.83/ share as of October. 29th, 2014 (Cost basis: $18,849)
5Macroeconomic Overview Booming Domestic Economy and Weak Economy in EuropeGDP number: $14.41, 14.96,15.53,16.24,16.8 trillion from respectively with an estimate of trillion for 2014GDP decomposition: Y=C+I+G+NX; Consumer spending grew for the first time since 2004.Unemployment rate: 9.3%, 9.6%,8.9%, 8.1%, 7.4% in and 5.9% reported in Sep. 2014Low economic growth rate/ recession features in Europe: (-4.5%, 2%, 1.6%,-0.4%,0.1% GDP growth rate in )GDP growth rates -2.8%, 2.51%, 1.85%, 2.78%, 1.88% from , respectivelySource:Source:
7Macroeconomic Overview Healthcare insurance provider: private insurance, Medicare & Medicaid, Affordable Care Act (Obamacare)Percentage of uninsured Americans dropped from 18% in 2013 to 13.4% in May 2014.Federal funding for Medicare and Medicaid add up to $ billion in 2014 with roughly 4% annual growthMedicare: Part of US social security program, targeting senior citizens(65+), guarantee access to healthcare insuranceMedicaid: Specifically target people with low income and limited resourceObamacare: Features to guarantee everyone to healthcare insurance by implementing various regulations such as employer mandate (companies >50 employers and don’t offer health insurance to employees have to pay tax penalty)nd Medicaid
8Pharmacies & Drug Stores Turk, Sarah. "IBISWorld Industry Report Pharmacies & Drug Stores in the US." IBIS. N.p., Aug Web. Oct <http%3A%2F%2Fclients1.ibisworld.com%2Freports%2Fus%2Findustry%2Fdefault.aspx%3Fentid%3D4620>.
9Industry Analysis- Porter’s Five Forces Rooms for smaller business;Industry concentrationThreat of new entrants:MediumMore usage of online-orderingFace competition in general merchandise with supermarketThreat of Substitutes:HighRelatively for individualsHigh because of the existence of public health insurance and PBM (Prescription Benefits Managers)Bargaining Power of Buyers: MediumMaintain by being industry giantsStrong, long-term relationship with suppliersBargaining Power of Suppliers:Multiple competitors including other drug retail chain, supermarket, independent drug store, online drug ordering and mail-order drugsRivalry among existing Firms: HighPBM (Prescription Benefits Managers)= a third party administrator of prescription drug programsTurk, Sarah. "IBISWorld Industry Report Pharmacies & Drug Stores in the US." IBIS., Aug Web. Oct <http%3A%2F%2Fclients1.ibisworld.com%2Freports%2Fus%2Findustry%2Fdefault.aspx%3Fentid%3D4620>.
10Introduction to Walgreens Walgreens primarily sells prescription and non-prescription drugsThe company also sells general merchandise: convenience and fresh foods, household items, personal care, photofinishing and beauty care.Walgreens Co. and subsidiaries are the largest drugstore chain in the USAs of August 31, 2014 Walgreens operates 8,309 stores and accounted for net sales of $76.4 billionApproximately 76% of the US population is within a 5 mile radius of a Walgreens storeSource: Walgreen Co., FY14 Form 10 K for the Period Ending August 31, 2014, p. 3, from accessed October 26, 2014
11The Business Three main business segments GICS classification: Prescription drugs (65% of net sales)Non-prescription drugs (25% of net sales)General merchandise (10% of net sales)Distribution pipelineKey Supplier: AmerisourceBergenBuyers: pharmacy benefit managers (Express Scripts), private health systems, public healthcare sectorGICS classification:Sector: Consumer StaplesIndustry: Food and Staples RetailingSub-Industry: Drug RetailSource: Walgreen Co., FY14 Form 10 K for the Period Ending August 31, 2014, p. 5, from accessed October 26, 2014
12Management Gregory D. Wasson President and CEO New executive members from Alliance & Boots: Stefano Pessina (Executive Vice Chairman), Ornella Barra (president and chief executive of global wholesale and international retail)Two members of activist investor Jana Partners LLC will join the boardWalgreens appointed new CFO Timothy McLevish on August and he has a history of cost control and financial disciplineManagement FocusThree year “Next Chapter” PlanCost reduction initiativeCapital Allocation PolicyThree year “Next Chapter” Plan:A differentiated retail experience that transforms retail model for health, wellness and changes the way women shop for beautyIntegrated pharmacy and health care that advance the role of pharmacists and provide access to innovative health care servicesGlobal pharmaceutical services that reinvent the pharmaceutical value chain and deliver a seamless specialty pharmacy modelCost reduction initiative:Effort in corporate, field and store-level cost reductions targeted to achieve $1 billion in savings by end of fiscal 2017“Walgreens has demonstrated strong focus on cost control as adjusted SG&A growth has slowed … and move forward integrating Walgreens and Alliance Boots.” Watson ( k item 7 MD&A)Capital Allocation Policy:Continue to invest in its core business such as driving organic growthPursuing strategic opportunities such as Mergers and AcquisitionsMaintain strong balance sheet and financial flexibility with commitment to solid credit rating and govern future capital allocationReturning cash to shareholders by targeting a percent long-term dividend payout ratio and a new $3 billion share repurchase"Walgreens Board of Directors Exercises Option to Complete Second Step of Strategic Partnership with Alliance Boots and Fully Combine Both Companies, Creating First Global Pharmacy-Led, Health and Wellbeing Enterprise." Walgreen Co. N.p., 06 Aug Web. 29 Oct <http://investor.walgreens.com/releasedetail.cfm?ReleaseID=864504>.
13Management – key points 1. Moody’s rating downgraded their credit rating of subordinated debt 2. Ex-CFO dispute 3. Concerns for stock repurchases 4. Still need to wait to see how synergies are realized 5. Concerns for new executives: board members for Jana 6. Decision to not complete tax inversion disappointed investors back in September
16We can think of a 200 day as a trading year and a 20 day as a month
17Alliance Boots Acquisition On August 2, 2012, Walgreens acquired a 45% equity stake in Alliance Boots GmbHOn August 5, 2014, the Purchase and Option Agreement was amended to permit the exercise of the call option and Walgreen exercised the call option on August 5, 2014The company will have over 11,000 stores across the US, Asia, and the EU as a result“Immediately prior to the reorganization, shareholders will become shareholders of Walgreens Boots Alliance, with shares of Walgreen Co. common stock being converted automatically into shares of Walgreens Boots Alliance common stock on a one-for-one basis.”Source: Walgreen Co., FY14 Form 10 K for the Period Ending August 31, 2014, p. 10, from accessed October 26, 2014
18Strengths/CatalystsPredicted growth of retail and prescriptions sales based on macro assessmentAging population, ACA, and stronger US economyStrong recent financial results(Discussed later)Partnerships create a global powerhouseAmerisourceBergen ten-year distribution agreement established the world’s largest buyer of prescription drugsExpress Scripts, the largest global PBM, will increase customer baseAlliance Boots acquisition: cost synergies and addition to top line in the long termCombined synergies across both companies were approximately $491 million in fiscal 2014 and management estimates fiscal year 2015 combined synergies to be $650 million.Walgreen reported its biggest jump in quarterly sales in three years on Tuesday, driven by a 9.3 percent rise in prescription sales in the fourth quarter.Also have a minority interest in ABCWalgreens filed ~699 million prescriptions in FY 2014 (an increase of 16 million from FY 2013)"Walgreens Board of Directors Exercises Option to Complete Second Step of Strategic Partnership with Alliance Boots and Fully Combine Both Companies, Creating First Global Pharmacy-Led, Health and Wellbeing Enterprise." Walgreen Co. N.p., 06 Aug Web. 29 Oct <http://investor.walgreens.com/releasedetail.cfm?ReleaseID=864504>.
19Risks/ConcernsSlowdown of discretionary spending will disrupt front-end sales of general merchandiseSeasonality of businessSecond fiscal quarter has much higher-front end sales due to the cough, cold, and flu seasonOperating leases can be viewed as debtThe balance sheet does not reflect this liabilityRisk of PBM’sPartnership with AmerisourceBergen may not be realized to full potentialAlliance Boots synergies and revenue stream may not come to fruitionThe goals of this acquisition will take time to achieveExposure to EU: exchange rates, economic recession, government regulation are a few issuesDilutionAfter the second step transaction, Walgreens shareholders will own a smaller percentage of Walgreens Boots Alliance common stock than they currently own.Summary of Quarterly Results (Unaudited)" in Part II, Item 8 of this Form 10-KSource: Walgreen Co., FY14 Form 10 K for the Period Ending August 31, 2014, p. 10, from accessed October 26, 2014
20Risks/ConcernsSlowdown of discretionary spending will disrupt front-end sales of general merchandiseSeasonality of businessOperating leases can be viewed as debtThe balance sheet does not reflect this liabilityRisk of PBM relationships in the futurePartnership with AmerisourceBergen may not be realized to full potentialAlliance Boots synergies and revenue stream may not come to fruitionThe goals of this acquisition will take time to achieveExposure to EU: exchange rates, economic recession, government regulation are a few issuesDilutionAfter the second step transaction, Walgreens shareholders will own a smaller percentage of Walgreens Boots Alliance common stock than they currently own.Second fiscal quarter has much higher-front end sales due to the cough, cold, and flu seasoSource: Walgreen Co., FY14 Form 10 K for the Period Ending August 31, 2014, p. 10, from accessed October 26, 2014
21Recent Financial Results Sales for September were $6.48 billion for FY 2015, an increase of 9.4%Comparable store sales increased by 7.9% during the month.Pharmacy sales accounted for 67.8% of total sales, and increased by 14.2%.1Fiscal Year 2014 sales increased 5.8 percent to record $76.4 billion;Sales for September in FY 2015 increased 9.4% at $6.48 billion, an increase of 9.4% from $5.82 billion for the same month in fiscal 2014;Gross margin decreased to 28.2% in 2014 from 29.2%Met fourth quarter earning estimate(Adjusted EPS increased 1.4% to 74%)1 "Walgreens September Sales Increase 9.4 Percent." Walgreen Co. N.p., 03 Oct Web. 29 Oct <http://investor.walgreens.com/releasedetail.cfm?ReleaseID=874420>.
27Financial Analysis – Joel Greenblatt Joel Greenblatt Ratios20102011201220132014EBIT/Tangible Assets0.2500.3070.2460.2900.305EBIT/EV0.0490.0610.0470.0530.057
28Discount Rate Returns n 60 Risk Free Rate 2.37% µ 1.376% σ 0.083 2.37%1.376%σ0.083WAG Annualized Return17.82%CAPM ApproachRfBeta0.964MRP7.29%E[r] Equity9.398%Blended E[R]15.713%Cost of DebtCapital Structure SummaryTotal Interest Expense156.00Total Debt28,024.057.7%4,510.00Total Common Equity20,457.042.1%3.46%Total Minority Interest104.00.2%Marginal Tax Rate37%Total Capital48,585.0100.0%Tax Effected Cost of Debt2.18%WACC7.87%Business Risk Premium1%Discount Rate8.87%
29Assumptions Select a Case: Base Case Revenue Assumptions FY 2015 Boom Case5.00%9.00%7.00%Revenue Growth3.0%7.0%5.0%Gross Profit Margin29.5%32.0%35.0%Bust Case1.0%SG&A as a % of Sales22.5%Interest Expense/Operating Income3.5%4.0%4.5%Tax Rate37.0%Depreciation10.0%Capital Expenditures2.0%1.7%Total Assets as a % of Revenue44.4%
30Discounted Cash Flow Valuation FCF Build - WAGEBIT$5,507.86$7,998.20$11,260.63$11,823.66$9,255.569,255.56Less: Taxes1,976.772,855.763,999.784,177.893,253.33Less: Capex1,573.681,431.261,531.451,608.021,656.261,829.34Less: Changes in NWC1,983.99242.13259.08198.01124.75Plus: D&A1,477.411,580.831,691.481,776.06Unlevered FCF1,450.835,049.887,161.817,615.806,050.576,002.23FCF Build - BOOTS1,929.692,064.772,209.302,319.772,389.368.909.5210.1910.7011.02Less: CAPEX463.71496.17530.90557.45574.17774.58(45.41)(45.83)(46.25)(46.67)(47.09)625.56669.35716.21752.022,128.052,274.252,430.662,550.302,625.842,378.34Terminal Value Assumptions3%Discount Rate (WACC + premium)8.87%Terminal Value WAG105,264.94Terminal Value (WAG + BOOTS)27,608.08Discount Period (t)12345PV of FCF's (WAG)1,332.594,260.305,549.605,420.433,955.4368,814.68PV of FCF's (WAG + BOOTS)3,287.216,178.967,433.087,235.565,672.0118,048.19PV of FCF'sTerminal ValueEquity ValueEnterprise ValueNet DebtDSO$/SharePerpetuity Method (WAG ONLY)20,518.3451,844.0289,333.0237,489.01965.2$Perpetuity Method (WAG + BOOTS)50,325.1786,862.8781,612.53137,188.0455,575.51$
31Comparables Valuation Company NameWeightTEVEBITDAEBITRevenueTEV/EBITDATEV/EBITTEV/RevenueCVS Health Corporation70%8545.010.6x12.9x0.8xRite Aid Corporation20%1157.9750.19.1x14.0x0.4xWal-Mart Stores Inc.8%8.4x11.3x0.6xExpress Scripts Holding Company2%5802.73726.011.9x18.6x0.7x100%Walgreen Co.5141.03936.012.2x15.9xHighLowMedian8115.96135.59.8x13.5xMean9902.810.0x14.2xWeighted Average10.1x13.1xEV/EBITDAEV/EBITEV/REVENUEEnterprise ValueLess: Total Debt4,510Plus: Cash2,646Equity Value50,30249,82453,943Total Shares Outstanding950Intrinsic Value/Share$52.93$52.42$56.76Average Value/Share$54.04Median Value/Share