Walgreens: without a sale of Boots, US group needs a health check

Walgreens Boots Alliance’s decision not to give Boots the boot creates a problem. Proceeds from the sale of the UK chain would have accelerated the expansion of Walgreens Health. This division, launched last October, is the US drugstore operator’s foray into healthcare. It has been touted by chief executive Roz Brewer as a potential “new growth engine”.

Owning physical drugstores is not the cash cow it once was. Across nearly 9,000 stores in the US, prescription drug sale margins are being squeezed by pressure to cut prices and cheaper generics. So-called “front end” sales of everyday items such as toothbrushes and make-up are being chipped away by online competitors.

US retail sales account for about four-fifths of Walgreens’ revenues. In the last quarter these sales, which include drugs and tobacco, fell 7 per cent.

At rival drugstore operator CVS, retail sales account for just a third of group revenues. CVS is more diversified. It has built up a large pharmacy benefit management business and a leading health insurance division via acquisitions.

The difference in business models explains why Walgreens has underperformed. The stock is down more than a fifth over the past year to trade on just 8.5 times forward earnings. CVS remains 13 per cent higher and is on a multiple of 11 times.

The valuation gap is likely to persist. Walgreens was seeking £7bn for Boots. Its inability to sell the UK pharmacy chain will hit the company on two fronts. It must now look for additional sources of capital to fund its push into healthcare. At the same time, it will need to devote resources to turn around the UK chain.

Walgreens could always try to sell its 25 per cent stake in drug wholesaler AmerisourceBergen, which is worth about $7.5bn. Then again, falling share prices mean that it may want to sit on this business for a little while longer too.