Date: November 21, 2013
Jun Yuan (Jason) Chan
Hisham Haider Dewan
Zige (Z) He
Charalampos (Haris) Ntantanis
1
Agenda
Holding Information
Company overview
Macro-economic overview
Industry analysis
Equity market performance
Financial analysis and projections
Valuation
Recommendation
2
Current Holdings
Number of shares: 500 purchased Oct 05, 1999 at $25/share
Total Purchase Price = $12,500
Current Market Value ($59.40 per share*) = $29,700
Holding period return = 137.60%
Annually compounded return = 6.377%
Allocation of portfolio = 14.75%
Source: Yahoo Finance; *$59.40 per share as of Nov 20, 2013
Introduction to Walgreen (NYSE:WAG)
Walgreen Co. operates the largest drugstore chain in the U.S.
with net sales of $72.2 bn. in FY 2013
Provides customers access to pharmacy, consumer goods
and services, and health and wellness services
Service through drugstores, mail, phone and online
August 2, 2012, WAG held a 45% investment interest in
Alliance Boots GmbH, Europe based pharmacy-led health
and beauty group
Source: Walgreen Co. 2013 10K filing Item 1. Business
Business Segments
Prescription and non-prescription drugs
General merchandise
• Household items, convenience and fresh foods,
personal care, beauty care, photofinishing, and
candy
Source: Walgreen Co. 2013 10K filing Item 1. Business
Revenue Breakdown by Segment
2013
2012
10%
12%
Prescription Drugs
27%
General Merchandise
63%
Prescription Drugs
25%
General Merchandise
Non-prescription Drugs
Non-prescription Drugs
63%
6
Source: Bloomberg terminal Walgreen Co. revenue breakdown by segment
Distribution Network
6.2 million daily visits to stores in 2013
Location Type
Drugstores
Worksite Health and Wellness Centers
Infusion and Respiratory Services
Facilities
Specialty Pharmacies
Mail Service Facilities
Total
2011
7761
355
2012
7930
366
2013
8116
371
83
9
2
8210
76
11
2
8385
82
11
2
8582
7
Source: Walgreen Co. 2013 10K filing Item 1. Business
Distribution Network
Mobile
Alliance Boots expands into Europe
New store through M&A
Online eCommerece
Mail order
8
Annual Revenue
Revenue
$75,000
$72,184
$70,000
$72,217
$67,420
$65,000
Revenue in $Millions
$71,633
$63,335
$60,000
$59,034
$55,000
$53,762
$50,000
$45,000
$40,000
2007A
2008A
2009A
Source: Walgreen Co. 10K filing from 2007 to 2013 Statement of Earnings
2010A
2011A
2012A
2013A
9
Annual Net Income
3,000.00
2,714.00
2,450.00
2,500.00
2,006.00
2,127.00
2,091.00
$Millions
2,000.00
1,500.00
1,000.00
500.00
0.00
2009A
2010A
Source: Walgreen Co. 10K filing from 2007 to 2013 Statement of Earnings
2011A
2012A
2013A
10
Same Store Sales Growth
11
Source: Susquehanna Financial Group, LLLP (SFG) Research Walgreen Company Update October 3, 2013, page 3
Mergers, Acquisition and Partnerships
AmerisourceBergen: 10 year pharmaceutical distribution
agreement to source branded and generic drugs
Acquisition of USA Drug, Super D Drug, May's Drug, Med-X,
Drug Warehouse
Acquisition of Kerr Drug (76 retail drugstores in South
Carolina)
12
Source: Walgreen Co. 2013 10K filing Item 1. Business - Business Development
Equity Stake of Alliance Boots
WAG has 45% investment in Alliance Boots at $6,690.23 Mil
giving WAG access to EU markets
13
About Alliance Boots
14
Source: Alliance Boots Annual Report 2012-13 page 1-2
Option to Buy Alliance Boots
WAG has a call option to acquire remaining 55% equity interest
during the 6 month period beginning February 2, 2015
Will be purchased with cash of £3.133 billion ($5.0 Bil. as of
August 31, 2012) and stocks of WAG1
Additional 55% stake in AB estimated to cost $8.177 Bil.2
Alliance Boots had approximately $10.1 billion of outstanding
debt, including short-term borrowing2
Net realized synergy of $154m was greater than expected range of
$130m to $150m was greater than expected in 20134
15
Source: 1. Capital IQ; 2. Author’s estimation; 3. Walgreen Co. 2013 10K filing Item 1A. Risk Factors and based on exchange rates
as of March 31, 2013 (Approximately £6.7 billion); 4. http://investor.walgreens.com/releasedetail.cfm?ReleaseID=793976
Dispute Resolution with Express Scripts
WAG derives significant portion of sales from prescription
drug sales reimbursed through prescription drug plans by
pharmacy benefit management (PBM) companies
Lost network of Express Scripts, Inc. for more than eight
months in 2012, which led most patients in plans transition
to a new pharmacy
Even after resuming PBM relationship all customers may not
come back
16
Source: Walgreen Co. 2013 10K filing Item 1A. Risk Factors
Equity Performance
17
Source: Google Finance
Technical Analysis
18
Source: http://finance.yahoo.com/q/ta?s=WAG&t=1y&l=on&z=l&q=l&p=m50%2Cm200&a=&c=
Macro-economic Overview
Increasing number of physician visits
Rising cost of pharmaceutical products in U.S.
Total healthcare expenditure $5 trillion globally
Aging population in U.S., U.K., and E.U.
Recessionary or low growth environment in EU: UK GDP
grew 0.8% between July and September
Source: 1. IBISWorld Industry Report 33451b Medical Device Manufacturing in the US October 2013, page 4. 2. Source: OECD.
19
Health Data 2013. Frequently Requested Data. http://www.oecd.org/els/health-systems/oecdhealthdata2013frequentlyrequesteddata.htm 3. http://www.bbc.co.uk/news/business-24668687
Macro-economic Outlook
20
Drug Retail Industry
21
Source: IBISWorld Industry Report 44611 Pharmacies & Drug Stores in the US, Page 4
Industry Growth Drivers
1. Disposable income rising
2. Aging population (13.7% of the U.S. population is over 65)
3. Number of people covered by private health insurance
(49.1 Mil. or 16% of the U.S. population uninsured)
4. Number of physician visits expected to increase
22
Patient Protection & Affordable Care Act: Impact on WAG
Removed employees from company
healthcare plan
Subsidize roughly 160,000
employees to purchase insurance
Aside from rising health-care costs,
the company cited compliancerelated expenses
23
Source: http://online.wsj.com/news/articles/SB10001424127887323527004579081563998551366
Risks
Increased competition from other large chain retail pharmacies
Reimbursement levels under government budget pressures,
health-care reform, and PBM consolidation
The loss of large PBM customer and failure in recapturing scripts
that were lost due to the Express Scripts dispute
Performance from Alliance Boots comes in below expectation and
prior synergy targets are not realized
Exposure to Europe's troubled economies
Increased financial leverage
Porter’s Five Forces for Walgreen
Bargaining power of
buyer:
Threat of new entrant:
High
High
Competitive Rivalry:
High
Threat of substitute
product:
Bargaining power of
supplier:
Medium
Medium
25
Management Outlook and Performance
Bad handling of PBM Express Scripts (ESRX) shows weakness
in handling difficult negotiation
Management optimistic about Alliance Boots acquisition
Expects to acquire smaller local chains in U.S.
Plans to open more in-store clinics
26
Source: Walgreen Company WAG Q4 2013 Earnings Call Transcript http://www.morningstar.com/earnings/earnings-call-transcript.aspx?t=WAG
Company Life Cycle
27
Walgreen SWOT Analysis
Strengths
Weaknesses
• Strong brand awareness
• Distribution network
• Diversified retail channels
• High operating leverage (lease)
• Exposure to weak EU economy
Opportunities
•
•
•
•
Strategic acquisitions and expansions
Growth of online retailing
Rising healthcare expenditure
Latent demand for beauty products
Threats
•
•
•
•
Global economic slowdown
Stringent government regulations
Highly competitive industry
Lack of synergy after acquisitions
28
Financial Analysis
Ratio Analysis, DuPont Analysis, Lease
29
Ratio Analysis
Liquidity Ratios
Current Ratio
Quick Ratio
Cash Ratio
2009A
1.78
0.78
0.17
2010A
1.60
0.61
0.16
2011A
1.52
0.53
0.13
2012A
1.23
0.43
0.12
2013A
1.34
0.57
0.18
Solvency Ratios
Debt/Assets
Debt/Equity
Interest Coverage
2009A
0.09
0.16
39.12
2010A
0.09
0.17
40.68
2011A
0.09
0.16
61.48
2012A
0.16
0.30
39.36
2013A
0.14
0.26
23.88
2009A
25.37
5.86
2.52
2010A
27.52
6.03
2.57
2011A
28.91
6.26
2.63
2012A
33.06
5.95
2.14
2013A
27.44
5.95
2.04
Activity Ratios
A/R Turnover
Fixed Asset Turnover
Total Asset Turnover
30
Ratio Analysis
Profitability Ratios
Operating Profit
Margin
Net Margin
ROA
ROE (Book Value)
2009A
2010A
2011A
2012A
2013A
5.13%
3.17%
7.98%
13.95%
5.13%
3.10%
7.96%
14.52%
6.05%
3.76%
9.89%
18.28%
4.84%
2.97%
6.36%
11.66%
5.46%
3.39%
6.91%
12.59%
Greenblatt Ratios
EBIT/Tangible Assets
EBIT/EV
2009A
14.32%
0.075
2010A
15.11%
0.088
2011A
16.64%
0.074
2012A
15.37%
0.103
2013A
15.07%
0.059
31
DuPont
DuPont Analysis
2009A
2010A
2011A
2012A
2013A
Tax Burden
0.6340
0.6199
0.6320
0.6300
0.6290
Interest Burden
0.9744
0.9754
0.9837
0.9746
0.9886
Operating Profit Margin
5.127%
5.129%
6.047%
4.836%
5.456%
Asset Turnover
2.5191
2.5659
2.6293
2.1407
2.0354
Leverage
1.7489
1.8247
1.8491
1.8349
1.8238
ROE
13.95%
14.52%
18.28%
11.66%
12.59%
Dupont Analysis
3.0000
2.5000
Tax Burden
2.0000
Interest Burden
1.5000
Operating Profit Margin
Asset Turnover
1.0000
Leverage
0.5000
ROE
0.0000
2009A
2010A
2011A
2012A
2013A
32
Walgreens Leases
• Walgreens owns approximately 20% of its operating locations; the remaining
locations are leased premises.
• Initial terms are typically 20 to 25 years.
Capital Leases (in $mil)
Operating Leases (in $mil)
2014
19
$2,536
2015
19
2,514
2016
18
2,464
2017
17
2,389
2018
15
2,292
Later
270
23,507
Total minimum lease payment
$358
$35,702
Valuation
DCF, Relative valuation, Benjamin Graham formula
34
Cost of capital
Weighted average cost of debt
2.76% Weights
Cost of equity using CAPM
8.04% 70.00%
ROE (5 year average ROE)
14.10% 30.00%
Cost of equity using goal post method
9.86%
Market value of debt
5,086.30
Market value of equity
57,354.30
Weight of debt
8.15%
Weight of equity
91.85%
Tax rate
35.00%
Calculated WACC
9.20%
Business Risk Premium
Adjusted WACC1 (Calculated WACC +
Business Risk Premium)
1.00%
10.20%
Beta (From
1/3/2012 to
11/11/2013)
0.8972
Market risk
premium (Rm-Rf)
6.00%
10 year treasury
yield
2.66%
Cost of equity
using CAPM
8.0429%
35
Free Cash Flow to Firm (Option Not Exercised)
EBIT
Less: Income Taxes
Plus: D&A
Less: CapEx
Less: Change in Working Capital
FCFF to WAG
FCFF to AB
FCF used in DCF
2014P
4,322.79
1,512.97
1,169.60
1,383.20
738.52
1,857.70
$593.84
2,451.54
2015P
4,538.92
1,588.62
1,169.60
1,383.20
279.38
2,457.33
$611.66
3,068.99
2016P
4,765.87
1,668.05
1,169.60
1,383.20
293.34
2,590.87
$630.01
3,220.88
2017P
5,004.16
1,751.46
1,169.60
1,383.20
308.01
2,731.10
$648.91
3,380.01
2018P
5,254.37
1,839.03
1,169.60
1,383.20
323.41
2,878.33
$668.38
3,546.71
36
Free Cash Flow to Firm (Option Exercised)
EBIT
Less: Income Taxes
Plus: D&A
Less: CapEx
Less: Change in Working
Capital
FCFF to WAG
FCFF to AB
FCF used in DCF
2014P
4,322.79
1,512.97
1,169.60
1,383.20
2015P
4,538.92
1,588.62
1,169.60
1,383.20
2016P
4,765.87
1,668.05
1,169.60
1,383.20
2017P
5,004.16
1,751.46
1,169.60
1,383.20
2018P
5,254.37
1,839.03
1,169.60
1,383.20
738.52
279.38 293.34
308.01
323.41
1,857.70 2,457.33 2,590.87 2,731.10 2,878.33
$593.84 $1,359.24 $1,400.02 $1,442.02 $1,485.28
2,451.54 3,816.57 3,990.90 4,173.12 4,363.62
37
DCF Valuation
Option Not Exercised
WACC
10.203%
Terminal Value (at 2018) $59,463.60
Terminal Growth Rate
4.00%
Implied Enterprise Value
$ 48,215.01
Plus: Cash
Less: Debt
$5,086.30
Value of equity
$43,128.71
Shares Outstanding
955.20
Estimated price per share $45.15
Option Exercised
WACC
Terminal Value (at 2018)
Terminal Growth Rate
Implied Enterprise Value
Plus: Cash
Less: Debt
Value of equity
Shares Outstanding
Estimated price per share
10.203%
$73,159.71
4.00%
$58,872.35
$5,086.30
$53,786.05
955.20
$56.31
38
Comparable Companies
Company Name
AmerisourceBergen Corporation
(NYSE:ABC)
Cardinal Health, Inc. (NYSE:CAH)
CVS Caremark Corporation (NYSE:CVS)
Express Scripts Holding Company
(NasdaqGS:ESRX)
Omnicare Inc. (NYSE:OCR)
Rite Aid Corporation (NYSE:RAD)
Safeway Inc. (NYSE:SWY)
Walgreen Co. (NYSE:WAG)
Market
Capitalization
Revenue
15,821.2
114,215.89
21,830.6
77,513.5
84,901.05
130,339.21
53,126.4
102,289.36
5,944.0
4,819.1
8,369.0
57,354.3
6,519.66
25,438.02
38,407.02
75,437.34
Subjective
weight
10.00%
5.00%
40.00%
5.00%
5.00%
25.00%
10.00%
39
Relative Valuation
TEV/Total Revenues
TEV/EBIT
TEV/EBITDA
TEV/Forward Total Revenue (Capital IQ)
TEV/Forward EBITDA (Capital IQ)
P/Diluted EPS Before Extra
Forward P/E (Capital IQ)
Price/Sales
Multiple value*
0.5x
12.2x
9.2x
0.5x
8.8x
24.1x
16.9x
0.4x
Implied Price per Share
Weighted average (using subjective weights for companies)
Implied price per share
$37.33
$46.88
$43.17
$38.79
$47.95
$60.44
$61.16
$30.92
$45.83
40
*Using subjective weights for companies
Benjamin Graham's Formula
Ben Graham Formula (Option not exercised)
Current (normal earnings)
Expected annual growth rate (%)
Number of shares
Estimated price per share
$3,190.06
4.00
955.20
$41.75
Ben Graham Formula (Option exercised)
Current (normal earnings)
Expected annual growth rate (%)
Number of shares
Estimated price per share
$4,223.50
4.00
955.20
$55.27
41
Key decision driver
Upside
Possibility of synergy with Alliance Boots
Strong same store sales growth
Improvements in margins due to NYSE:ABC deal
Downside
Increased leverage
Inadequate synergy with Alliance Boots
Increased power of managed care providers influencing margins
42
Valuation Results
Discounted cash flow
Benjamin Graham's
formula
Relative valuation
Option not exercised
$45.15
$41.75
$45.83
Option exercised
$56.31
$55.27
-
43
Recommendation
SELL
200 Shares @ Market Price
Expected gain $6,880 if sold at $59.40 per share
44