Longer lives should keep Walgreens Boots investors on right track
Walgreens Boots Alliance is the largest retail pharmacy, health, and daily living destination for consumers across the US and Europe with a history which can be traced back more than 100 years. The combination of US-based Walgreens with UK-focused Alliance Boots in 2014 created an enormous enlarged company with a truly global reach. The company operates from more than 13,200 stores, employs over 385,000 staff, and has a distribution arm that delivers to more than 230,000 clients.
In the UK and Ireland, consumers will be very familiar with Boots locations, while travellers to the US will have encountered the Walgreens and Duane Reade stores in major metropolitan cities.
More recently, the shares of Walgreens Boots Alliance have come under pressure as fears increased that Amazon was likely to move into medicines distribution - a development which unsettled investors as Amazon has habitually entered new business segments, made limited profits but pressured overall sector profitability.
These fears are likely overdone as the logistics and regulations attached to the distribution and dispensing of medical products would represent a significant step up for Amazon and are considerably more complex than, for example, transporting a book from a warehouse to a consumer's home.
Operationally, Walgreens Boots Alliance continues to perform strongly, and recent quarterly results highlight that it continues to grow at an attractive rate, despite experiencing fluctuations due to foreign exchange movements. Management is confident that 2018 will be a strong year.
A key attraction of the company's business model is the high level of free cash flow that is generated, given relatively modest capital expenditure required to run the business. (Free cash flow is the operating cash flow generated by the business - minus the spending on capital investment.) In 2018, analysts covering the company believe that free cash flow of $6.4bn will be generated, placing it on a free cash flow yield of around 10pc. Generally, firms which trade with free cash flow yields of above 6pc to 7pc can provide investors with excellent opportunities over the medium to long term - as long as there is high confidence that profitability can be maintained.
Walgreens Boots Alliance also has a very strong balance sheet which has facilitated significant share buyback programmes in recent years and will allow management to look at value accretive acquisitions.
The most likely takeover candidate would be AmerisourceBergen, a US drug wholesale business that Walgreens Boots Alliance already owns 25 pc of. There were several media reports earlier in the year that an approach was made but that AmerisourceBergen management spurned the interest. It would not be surprising if the possibility of a transaction was revisited given the strategic logic of a combination between the two firms. If it were to occur, it would be a $20bn deal and would provide Walgreens Boots with significant scale in the US drug distribution sector.
As demographics continue to point to a larger, longer-living population across developed markets, companies such as Walgreens Boots Alliance should continue to see increased demand for their services and can continue to thrive.
With shares currently trading with the cheapest set of valuation multiples in several years and providing investors with a solid profitability growth outlook and a dividend yield of 2.6pc, it is an attractive investment candidate to consider.
David Holohan is chief investment officer with Merrion Capital
(Any investment commentary in this column is from the author directly and should not be seen as a recommendation from The Sunday Independent)
Sunday Indo Business