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Analysis of US Drug store chains

Knowledge Foundry Business Solutions May 2009
Authors: Raj Bhatt (raj@knowledgefoundry.net), Vivek Bothra

This document is not intended to provide tax, legal, insurance or investment advice, and nothing in it should be construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any security by Knowledge Foundry Business Solutions.

Contents
• Comparison of metrics • Company-specific details

Drug retailing is a mature and competitive business

Source: NACDS, Credit Suisse

Store chains and mail order have been gaining strength over independent stores in dispensing prescriptions
Market Share of Prescription Rx Sales
100% 80% 60% 40% 20% 0%

2001 2002 2003 2004 2005 2006 2007 2008 Chains Food Stores Mail Order
Source : NACDS, Credit Suisse

Independents Mass Merchandisers

Drugstore chains are perceived to be convenient and trustworthy for dispensing prescriptions

CVS, Rite Aid and Walgreen are the major US chain drug store chains
Comparison of the major drugstore chains (2008)
Sales ($Mn)
100000 80000 59,034 60000 4000 40000 20000 0 Cvs Corp. Rite Aid Walgreen 26,289 2000 0 Cvs Corp. Rite Aid Walgreen 87472 8000 7483 6,934

Stores*

6000

4901

Employees
250,000 200,000 150,000 113,000 100,000 50,000 0 Cvs Corp. Rite Aid Walgreen 237,000 215,000

* Wal-Mart has 4100 pharmacies, Kroger has 1972; Target has 1400; Kmart has 1000; Supervalu has 920 pharmacies whereas Winn-Dixie has 400
Source: Annual Reports, Yahoo Finance, Wikipedia.org

Prescription drugs usually account for more than 65% of drugstore chain sales
Rite Aid Sales break up 2008(%) 0.4% 33.1%

66.5%

Pharmacy

Front end

Other

Walgreens Sales Break Up 2008 (%)
25%

10%

65%

Prescription Drugs

Non prescription drugs

General Merchandise

CVS is the largest US provider of prescriptions

# Rx's dispensed in 2008 (MM)
800 700 600 500 400 300 200 100 0 CVS Walgreens Medco RiteAid Walmart Express/ NextRx 316 300 246 149 729 617

CVS leads in the West and the South-East, Walgreens in strong in the Mid-West and SouthEast, whereas RiteAid leads in the North-East
Regional Market Share % (2008)
35 30 25

31

34
26 23

28 24
21 18 13 15

%

20 15 10 5 0

19

18

NorthEast

West Coast CVS RiteAid

SouthEast Walgreens

MidWest

Source: Credit Suisse

While CVS and Rite-Aid have acquired stores, Walgreens has primarily opened new stores
Drug Stores Acquired
2000 1800 1600 1400 1200 1000 800 600 400 200 0 2006 CVS 2007 Walgreen 2008 Rit e Aid 95 120 2 0 9 701 529 423

New Store openings 700 608 475 501

1,862

600 500 400 300 200 100 0 2006 CVS 2007 Walgreen Rite Aid 2008 147 40 188 140 47 33

Stores Closed
Stores Relocated*

250 200 150 100 50 0 2006 CVS 2007 Walgreen Rite Aid 2008 117 94 32 47 85 43 94 183 200
160 140 120 100 80 60 40 20 0 2006 2007 CVS Rite Aid 2008 118 136 130

66

65

56

* Data for Walgreens is not available Sources: 10k filling, annual reports, press releases

Comparing organic growth, Rite-Aid has grown the slowest in the past few years
Same-store Prescription sales growth
10% 8%
6% 8%

Same-store Front-end sales growth

6% 4% 2% 0% 2006 2007 Years 2008

CVS Rite-Aid Walgreens
2% 4%

CVS Rite-Aid Walgreens

0% 2006 2007 Years 2008

Same-store Sales growth
10% 8% 6% 4% 2% 0% 2006 2007 Years 2008 CVS Rite-Aid Walgreens

Source: Annual reports, Investor Presentations

CVS has the best operating ratios -- but higher assets due to recent acquisitions
20%

15% 10%

10%

CVS’ high inventory turnover may be due to the Caremark PBM business

Operating profit/Assets

0%

CVS
-10%

Rite Aid

Walgeen

-20%

-30%

-25%

Inventory Days of Sales
100

Inventory/ Total Assets
60% 42% 40% 32%

Operating Margin %
10%

Rite-Aid has negative operating margins driven by low sales/ sq ft and low productivity
5.8%

80
80 60 40 20 0

6.9%
5%

66 48

20%

15%

0%

Cvs Corp.
0%
Cvs Corp. Rite Aid Walgreen
-5%

Rite Aid

Walgreen

CVS

Rite Aid

Walgeen
-10%

-8.0%

Sales/Sq feet
CVS has lower contribution margin but higher sales per sq ft and sales per employee
1000 900 800

Contribution Margin %
30

Sales/ Employee
500

843

843

27 21

28

813

813
400 300 200

407
20

600

600

233

249

388
400
300

429
10

100

200 0
0
0

Cvs Corp.

Rite Aid

Walgreen

Cvs Corp. Cvs Corp.

Rite Aid Rite Aid

Walgreen Walgreen

CVS

Rite Aid

Walgeen

CVS has had a consistently higher operating margin– Rite-Aid had negative margins in 2008
Operating Margin
10% 5% Cvs Corp. 0% 2006 -5% -10% Years 2007 2008 Rite Aid Walgreen

Percentage

Operating Margin
10% 5% 0% -5% -10% -15% -20% -25% -30% 2008 Q1 Q2 Q3 Q4 Cvs Corp. Rite Aid Walgreen

Percentage

CVS carries less than 45 days of inventory whereas RAD and WAG carry more than 60 days
Inventory (Days of Sales)
100 75 Cvs Corp. 50 25 0 2006 2007 Years 2008 Rite Aid Walgreen

CVs turnover may be driven by the PBM business

Inventory (Days of Sales)
100 75 50 25 0 Q1 Q2 2008 Q3 Q4 Cvs Corp. Rite Aid Walgreen

Although CVS has faster inventory turnover, the competition is catching up

CVS has had consistently higher employee productivity than Rite-Aid and Walgreen
Sales/Employee
600000 500000 Dollars 400000 300000 200000 100000 0 2006 2007 Years 2008 Cvs Corp. Rite Aid Walgreen

Sales/Employee
120000 100000 Dollars 80000 60000 40000 20000 0 Q1 Q2 2008 Q3 Q4 Cvs Corp. Rite Aid Walgreen

Rite-Aid has much lower sales per square foot than its rivals

Sales/Square foot
900 800 700 600 dollars 500 400 300 200 100 0
These numbers are for the retail segment

Cvs Corp. Rite Aid Walgreens

2006

2007 years

2008

Pls. note that the 2008 CVS number does not include Longs’ Drug store which have a much lower average of $598 per sq. ft

… and smaller, right-staffed stores

Avg Store Sq Foot 15000 10000 5000 0 CVS Rite aid Walgreens 13866

12500 10472

Em ployee/Store 40 30 20 10 0 CVS Rite aid Walgreens 29 23 34

Company-specific details

CVS Caremark is positioning itself as an integrated healthcare company

CVS covers most states except the North-West

CVS was primarily an east coast retailer till 2003

Minute Clinics are staffed by nurse practitioners and currently focus on acute conditions (e.g., Flu)

Its store-brand sales have increased 47% over the past four years

Key strategic initiatives at CVS Caremark
• Completed acquisition of Longs Drugs and Rx America – to gain strength on the West Coast Successfully launched Proactive Pharmacy Care – a Pharmacy Benefits Management program– to compete against traditional PBM programs as well as drug retailers • Proven to improve adherence to prescriptions • Uses plan design based on a ‘Customer Engagement Engine’ that uses customer behavior, evidence-based medicine • already $8.9 BN in sales • More than 8 MM ExtraCare Health cards • 250 Maintenance Choice enterprise customers Focusing on specialty pharmacy -- 30 conditions including hemophilia, MS, RA • 20 mail order pharmacies and 52 specialty retail pharmacies • generating revenue of $ 10+ BN Pharmacy service initiative (PSI) and IT initiative (RxConnect ) to improve the prescription filling process Launched call center to free up pharmacists time – and improve customer service

Walgreens has a rich history of innovation

• • • • • • • •

1950 – self service stores 1968 – Child-proof containers 1981 – Satellite-linked stores 1991– POS scanners 1992 – Drive-through pharmacies 1999- online prescription history 2002 – multi-language prescription labels 2005 – online digital photo printing

Walgreens has a wide spread store network

Key strategic initiatives at Walgreens
• • Slowing store growth Re-inventing the customer experience • ‘Affordable Essentials’ program • Prescription Savings program has 1.7 MM+ members –offers discounts on more than 5000 generics; and 90-day supplies at a dollar a week • Optimizing assortment at a store level – to sell more front-end items • Optimizing pricing and promotions • Rolling out new ‘Customer-Centric Retailing (CCR)’ format • Enhance shopping experience by improving sightlines, layout and signage • Collaborating with vendors to leverage insights e.g., Baby care layout Transforming community pharmacy by the POWER program (centralizing data entry, data review and clinical review of prescriptions) • Allows pharmacists to strengthen their role as trusted clinicians • Reduces overall pharmacy costs • Rolled out in all Florida stores and now launching in Arizona

Key strategic initiatives at Walgreens (contd.)

Expanding health & wellness and specialty pharmacy • 273 Take Care clinics and 364 Worksite Health Centers catering to 180+ enterprise clients and millions of consumers • Specialty/ Infusion centers Rewiring for growth – driving major cost reduction and productivity gain • Strategic sourcing of indirect spend • Reduce corporate overhead and store labor • Balance workload to free up pharmacists’ time

Rite-Aid has a strong presence on the east coast and in select west coast markets

Source: Rite Aid presentation

Key strategic initiatives at Rite-Aid
• Focused store growth program – – Growth focused on key strategic markets Segmented stores using sales and profitability performance (High EBITDA margin stores; High volume, lower EBITDA margin stores; Good volume; Low volume) Emphasis on relocations “Customer World” pharmacy centric store format prototype

– – •

Strengthen pharmacy operations – Improve customer service using • ‘Ready when promised’ program • grow ‘Automated Courtesy Refill’ program • Use new ‘Nexgen’ KPIs • Focus on service at under-performing stores – – Differentiated loyalty programs – senior “Living More”, Rx Savings Card Focus on health and wellness programs

Key strategic initiatives at Rite-Aid (contd.)
• Improve front-end operations – – – – – Continue to grow private brand penetration (currently 13% of front store) Differentiating with GNC within-a-store “Living More” senior loyalty program Maximize prescription switches to OTC Optimize front-end assortment and use new pricing model and ad zones to drive sales

Continue operational improvements – – – – Improve store productivity through implementation of best practices across stores Inventory reduction initiatives without sacrificing customer satisfaction Expenses aligned with sales level with continued focus on SG&A reduction initiatives Reduction in supply chain costs