Walgreens Boots Alliance: Over 40 Straight Years of Dividend Growth
With roots going back to 1849, Walgreens Boots Alliance (WBA) is one of the world’s largest pharmacy retailers and drug distributors, operating over 18,000 pharmacy stores around the world.
The company operates a portfolio of retail store brands, including Walgreens, Rite Aid, Duane Reade, and Boots, as well as global health and beauty product brands, such as No7, Soap & Glory, Liz Earle, Sleek MakeUP, and Botanics.
In addition to its retail business, Walgreens owns distribution centers that deliver drugs to pharmacies, doctors, health centers, and hospitals. The firm is also one of the world’s largest purchasers of prescription drugs and other health and wellbeing products.
Overall, Walgreens operates under three business segments, with the majority of sales and profits derived from retail sales of pharmaceuticals in the United States:
- Retail Pharmacy USA: 76% of revenue, 76% of operating profit
- Retail Pharmacy International: 8% of revenue, 11% of operating profit
- Pharmaceutical Wholesale: 17% of revenue, 14% of operating profits
Having grown its dividend for 44 consecutive years, Walgreens is a dividend aristocrat and is poised to become a dividend king in 2026.
Business Analysis
Pharmacy retail is a tough industry characterized by fierce price competition and little differentiation. There are few noticeable differences inside of a Walgreens or CVS store, and many grocery chains operate pharmacies within their stores as well.
That said, customers are attracted to Walgreens' convenient store locations and broad selection of health, beauty, and wellness products. Impressively, 78% of the U.S. population lives within five miles of a Walgreens-owned store.
Consistent demand for prescription drugs (74% of Walgreens' retail sales in the U.S.) also ensures a steady flow of foot traffic through all economic conditions. People need vital medicines in good times and bad, as evidenced by Walgreens' ability to grow sales each year during the last recession.
An aging population should increase demand for pharmaceuticals in the years ahead as well. Total healthcare spending in the U.S. is expected to rise 5.5% annually over the next decade to about $6 trillion per year (20% of GDP), of which a sizable portion will certainly be on prescription drugs.
Still, Walgreens operates in a highly competitive industry. Scale is critical to achieving profitability through a low cost of goods and efficient use of fixed costs like back office expenses, marketing budgets, and technology and supply chain investments.
Walgreens operates at an impressive national (and even global) scale that smaller, regional rivals cannot match. As a result, Walgreens is able to source products from wholesalers at lower costs than many competitors. The firm is also able to routinely invest hundreds of millions into technology projects and store improvements.
Since most Americans already have access to a nearby pharmacy, there are few opportunities for Walgreens to expand by opening new stores. Instead, the company has grown in recent years by acquiring rivals, both domestically and abroad.
Notably, Walgreens purchased complete ownership of Alliance Boots (Europe's biggest pharmacy chain) for $8.5 billion in 2014. And more recently, Walgreens acquired 1,932 Rite Aid (RAD) drugstores in a 2017 deal valued at $4.4 billion.
These and other deals have made Walgreens the largest retail pharmacy in America and one of the largest medical and wellness product sellers in the world. In fact, Walgreens' market share of U.S. drug sales hit 21% in 2019, according to management.
The healthcare industry is certainly not in a steady state, though. Rival CVS, for instance, has made several large deals over the past couple decades to branch out beyond retail and become a leading health insurer and pharmacy benefit manager.
Walgreens, on the other hand, has mostly stayed in its own lane by remaining focused on retail pharmacy and forming strategic partnerships in place of entering new, potentially risky lines of business that cost billions to build or acquire.
For example, Walgreens is partnering with LabCorp to install patient service centers (similar to CVS Minute Clinics) at about 15% of Walgreens locations in the U.S. by 2023.
These patient centers will replace lower-margin retail space with more profitable and faster-growing healthcare offerings while bringing more shoppers through the doors.
Walgreens is also working to boost non-pharmacy sales, as profits from drug sales come under pressure from consolidation in the healthcare industry and other factors. One such initiative is to refocus the firm's product mix on the company's own beauty and wellness brands.
Management expects continued investments in technology (mobile apps to fulfill prescriptions, in-store analytics, supply chain improvements, etc.) and a major cost cutting effort to help grow Walgreens' bottom line as well.
That said, customers are attracted to Walgreens' convenient store locations and broad selection of health, beauty, and wellness products. Impressively, 78% of the U.S. population lives within five miles of a Walgreens-owned store.
Consistent demand for prescription drugs (74% of Walgreens' retail sales in the U.S.) also ensures a steady flow of foot traffic through all economic conditions. People need vital medicines in good times and bad, as evidenced by Walgreens' ability to grow sales each year during the last recession.
An aging population should increase demand for pharmaceuticals in the years ahead as well. Total healthcare spending in the U.S. is expected to rise 5.5% annually over the next decade to about $6 trillion per year (20% of GDP), of which a sizable portion will certainly be on prescription drugs.
Still, Walgreens operates in a highly competitive industry. Scale is critical to achieving profitability through a low cost of goods and efficient use of fixed costs like back office expenses, marketing budgets, and technology and supply chain investments.
Walgreens operates at an impressive national (and even global) scale that smaller, regional rivals cannot match. As a result, Walgreens is able to source products from wholesalers at lower costs than many competitors. The firm is also able to routinely invest hundreds of millions into technology projects and store improvements.
Since most Americans already have access to a nearby pharmacy, there are few opportunities for Walgreens to expand by opening new stores. Instead, the company has grown in recent years by acquiring rivals, both domestically and abroad.
Notably, Walgreens purchased complete ownership of Alliance Boots (Europe's biggest pharmacy chain) for $8.5 billion in 2014. And more recently, Walgreens acquired 1,932 Rite Aid (RAD) drugstores in a 2017 deal valued at $4.4 billion.
These and other deals have made Walgreens the largest retail pharmacy in America and one of the largest medical and wellness product sellers in the world. In fact, Walgreens' market share of U.S. drug sales hit 21% in 2019, according to management.
The healthcare industry is certainly not in a steady state, though. Rival CVS, for instance, has made several large deals over the past couple decades to branch out beyond retail and become a leading health insurer and pharmacy benefit manager.
Walgreens, on the other hand, has mostly stayed in its own lane by remaining focused on retail pharmacy and forming strategic partnerships in place of entering new, potentially risky lines of business that cost billions to build or acquire.
For example, Walgreens is partnering with LabCorp to install patient service centers (similar to CVS Minute Clinics) at about 15% of Walgreens locations in the U.S. by 2023.
These patient centers will replace lower-margin retail space with more profitable and faster-growing healthcare offerings while bringing more shoppers through the doors.
Walgreens is also working to boost non-pharmacy sales, as profits from drug sales come under pressure from consolidation in the healthcare industry and other factors. One such initiative is to refocus the firm's product mix on the company's own beauty and wellness brands.
Management expects continued investments in technology (mobile apps to fulfill prescriptions, in-store analytics, supply chain improvements, etc.) and a major cost cutting effort to help grow Walgreens' bottom line as well.
Altogether, Walgreens' extensive store network, large economies of scale, and ongoing investments in store improvements will enable the company to remain one of the world's most important health retailers and suppliers of vital medications for many years to come.
Furthermore, the conservative approach taken by management in the face of industry changes means that Walgreens should be able to continue paying a safe, growing dividend, at least in the near-term.
Key Risks
Management's conservatism may be a double-edged sword, as several trends in healthcare and retail are testing the company's ability to sustain long-term growth.
Management's conservatism may be a double-edged sword, as several trends in healthcare and retail are testing the company's ability to sustain long-term growth.
First, the same demographic tailwinds that are driving increased demand for medical services and drugs pose challenges to Walgreens' profitability.
Thanks in part to an aging population, healthcare costs are on the rise. Medicare spending, for instance, is projected to increase 7.4% annually as more baby boomers join the system, according to the Centers for Medicare & Medicaid Services.
In response, public and private insurers alike are pushing to slash costs throughout the medical supply chain, and consolidation in the healthcare industry (via mergers and acquisitions) has taken place in an effort to build scale, increase bargaining power, and squeeze suppliers.
Walgreens, in turn, is feeling the effects in the form of lower-than-anticipated reimbursement rates for prescriptions filled in its stores. Almost all of the retailer's pharmacy revenue is received from third-party payers like insurers.
Insurers are also experimenting with other measures to save money, such as having prescriptions refilled every 90 days instead of on a 30-day basis. Longer refill windows are a less profitable offering for Walgreens, according to management.
The story is much the same in Europe, where governments such as the U.K. are seeking to constrain healthcare spending, exerting pressure on Walgreens' bottom line.
CVS's answer to these same industry challenges has been vertical integration, most recently with the purchase of insurance giant Aetna for $78 billion in 2018. Funded in part by issuing $40 billion of debt, the deal caused CVS to freeze its dividend payout, though the company is now more diversified and has new avenues for growth.
Dividend investors may be reassured that Walgreens has to this point avoided a massive deal and major change in trajectory like CVS, but management's timidity may hurt the firm in the long run by failing to adapt the company to evolving industry conditions.
Of course, Walgreens is not entirely dependent on prescription drug revenue. About a quarter of the company's sales in the U.S. are from beauty products, toiletries, over-the-counter drugs, and other general merchandise.
However, non-pharmacy sales have suffered recently, with same-store sales declines between 1 and 3% seen in each of the last three years in the U.S. and each of the past two years internationally.
One cause for the declines is the emergence of e-commerce. With many products available online in a couple clicks and fast delivery often offered for free, the convenience factor that has advantaged Walgreens for decades is no longer nearly as valuable.
Walgreens is working to build out its e-commerce infrastructure, but the company is far from a leader in a space dominated by giants like Amazon and Walmart. Furthermore, e-commerce purchases are often lower-margin than brick-and-mortar sales due to the added cost of shipping and the ease of shopping around online for the best price.
With that said, Walgreens does have an edge in the online sale of prescription drugs due to the requirement that pharmacies have state-issued licenses. Also, medications are generally paid for by insurers, making drug sales more complicated transactions than e-commerce retailers are accustomed to handling.
In summary, Walgreens faces challenges with both its healthcare and general retail offerings, evidence of which can be seen in the company's recent slowdown in earnings, free cash flow, and dividend growth.
Closing Thoughts on Walgreens Boots Alliance
With 44 consecutive annual dividend increases under its belt, Walgreens Boots Alliance has proven itself to be one of the most durable companies in America. The drugstore business has long been a cash cow, benefiting from high regulations, economies of scale, and consistent foot traffic from prescription pickups that create opportunity to sell other high-margin retail goods.
However, the healthcare and retail sectors are increasingly complex and rapidly evolving. Amazon and others are taking share from brick-and-mortar retailers as more consumers shop online, and drug prices are under pressure as governments and private insurers seek to control rising healthcare costs.
When combined with the potential for a major acquisition, there's a lot of uncertainty surrounding the pace of Walgreen's future dividend increases and long-term earnings growth. The company should continue to pay a safe dividend, but conservative investors need to have realistic growth expectations and may prefer investing elsewhere until the industry settles into a steadier state.
When combined with the potential for a major acquisition, there's a lot of uncertainty surrounding the pace of Walgreen's future dividend increases and long-term earnings growth. The company should continue to pay a safe dividend, but conservative investors need to have realistic growth expectations and may prefer investing elsewhere until the industry settles into a steadier state.
