Shares of Walgreens Boots Alliance(NASDAQ: WBA) rallied sharply following better-than-expected earnings in its fiscal fourth quarter (ended Sept. 30). The pharmacy retailer and drug wholesale giant delivered a sales rebound while offering positive guidance through a series of new restructuring initiatives.
Investors should welcome the news as Walgreens stock had been in a free-fall, losing more than half its value just this year. The potential that this beaten-down healthcare-sector leader can find the right formulation to sustain long-term profitable growth could make its shares a big winner going forward.
Let's discuss the key points to consider before jumping in to buy shares of Walgreens Boots Alliance.
Early signs of a turnaround opportunity
Walgreens has struggled amid a multitude of macroeconomic and industry-specific headwinds. Intense competition from the rise in online pharmacies and e-commerce players has been reflected in weak sales over the past decade. Rising costs coupled with falling rates for insurance reimbursements have impacted margins and earnings.
Furthermore, the company has had to deal with various lawsuits over its alleged role alongside other national pharmacies in failing to control the abuse of prescription opioid medications, resulting in billions of dollars in settlements. These factors help explain Walgreens' disastrous stock-price performance.
On the other hand, the company's latest results were highlighted by some encouraging trends, suggesting core operations are stabilizing.
In Q4, Walgreens posted net sales of $37.5 billion, up 6% year over year, well ahead of the average Wall Street consensus estimate closer to $35.8 billion. Adjusted earnings per share (EPS) reached $0.39, also above the market forecast but still down 41% from Q4 2023 based on weak margins, particularly as the retail business saw comparable sales decline by 1.7% from the prior-year quarter.
The top-line strength was driven by an 11.7% comparable-sales increase in the U.S. pharmacy business. In this case, a favorable sales mix and higher pricing drove the results. The smaller U.S. Healthcare division also contributed positively this quarter. Internationally, the Boots UK group stood out with online sales accelerating this year.
Maybe the biggest development this quarter was the announcement of a major "footprint optimization program" aimed at improving profitability. Walgreens intends to close 1,200 stores over the next three years, focusing on underperforming locations and those with expiring leases across its more than 12,500 existing-store network. Management expects the process to be immediately cash flow accretive to shore up its balance sheet.
For fiscal 2025, Walgreens is guiding for annual sales growth of around 1% as a continuation of the recent momentum. The company's 2025 EPS target is between $1.40 and $1.80, compared to $2.88 in 2024, as a transitional year for the company to refocus on core strengths.
Image source: Getty Images.
I'm cautiously bullish on Walgreens stock
I believe Walgreens' strategy to improve its financial position through a more streamlined-operating profile can work. The plan to generate consistently higher profitability margins represents a good outcome for investors following what has already been a complete reset of expectations.
While Walgreens may not be able to reclaim its peak-earnings level from the prior decade anytime soon, the understanding is that the underlying business remains profitable and free-cash-flow-positive.
One area of uncertainty centers on how Walgreens will address its dividend payout and whether the $0.25 quarterly rate, which currently yields 10%, is sustainable. During the earnings conference call, Walgreens Boot Alliance CEO Tim Wentworth left the door open for a possible reevaluation of the company's capital-allocation policy down the line, indicating "everything is on the table."
In my view, shares of Walgreens may now be more attractive for its upside potential than as a high-yield opportunity. What I like about the stock is its compelling value, trading at just seven times management's full-year EPS target as a forward price-to-earnings (P/E) ratio. Signs that the turnaround strategy is making progress over the next few quarters could be a catalyst for shares to rally higher.
Recognizing the ongoing uncertainties with plenty of work to be done by Walgreens to rebuild investor confidence, I'm cautiously bullish on the stock. For investors with a long-term time horizon, a small position in shares through a dollar-cost-averaging strategy to mitigate volatility risk can work within a diversified portfolio.
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Dan Victor has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
