Pharmacies & Drug Stores Outlook Dull Amid Coronavirus Crisis

The Zacks Retail - Pharmacies and Drug Stores industry essentially includes retailing of a range of prescription and over-the-counter medications. This is distinctively different from the concept of hospital pharmacy wherein drugs are usually sold strictly under the prescription of hospital doctors.

The broad retail network of companies within retail pharmacy industry delivers advanced health solutions to patients, customers and caregivers. Their pharmacies dispense millions of prescription medications each year.  Over the past few years, the scope of retail pharmacy and drugstore market has expanded exponentially. In North America, some of these entities evolved to add wellness products and groceries to their traditional portfolio of prescription and over-the-counter medications.

The Retail - Pharmacies and Drug Stores industry is known for heavy consolidations. Going by a small business chronicle report, Walgreens Boots (WBA), CVS Health (CVS) and Rite Aid (RAD) are commonly referred to as the "big three" in the drugstore space. However, the non-healthcare leaders like Amazon (AMZN), JP Morgan (JPM) and Berkshire Hathaway, which are on the brink of floating major healthcare ventures, by and large affected the business of the Retail - Pharmacies and Drug Stores players.

Here are the industry’s four major themes:

• Industry Disruption Amid the Pandemic: Amid the coronavirus-led worldwide economic downturn, just like most of the healthcare segments, the retail pharmacy and drug store industry too is witnessing a bloodbath. For more than three months now, this industry is suffering due to the worldwide lockdown that has totally rattled the global supply chain of all types of drugs. Brand name drugs, which hold wide profit margins, are protected with a reliable supply chain. However, the low-margin generic drugs, which have a fragile supply chain network, are bearing the brunt of this economic slump. Drug retailers are also suffering from significant rise in medicine prices, stemming from rising cost of raw materials of drugs. Going by an Ameex USA report, the API (Active Pharmaceutical Ingredient) plant for generic drugs is often overseas. India and China dominate the API market. The API may be manufactured in a single plant and each stage holds very little inventory. The ongoing pandemic situation, which has led to major production halt as well, is accordingly causing drug shortage, particularly in emergency care, anesthesia care, and pain management and for antibiotics, vitamins and other essential medicines. Needless to say, this is taking a toll on the retail pharmacy and drug store business.
  

• Prescription Drug Cost Inflation Continues: In the pre-COVID-19 period too, this industry was entangled in the issue of continuous rise in drug cost. Going by a January 2020 Fortune report, more than 3,400 prescription drugs’ prices was hiked in the first six months of 2019, reflecting a 17% increase from the year-earlier tally. This, in turn, led patients to replace prescription medicines with low-cost generic drugs. The trend largely hurt the business of the likes of Walgreens through 2019. Meanwhile, 3 Axis Advisors predicts that in 2020, nearly 500 prescription drugs will be costlier as drugmakers proceed with price increases averaging 5% (published in in-pharmatechnologist article).
  

• Traditional Brick-and-Mortar Nature of Drug Retail Transforming: With e-commerce giant Amazon’s big move into the healthcare space, the retail pharmacy industry entered a new phase of fierce competition. However, the existing players in the drugstore industry are unlikely to give up. To counter this rivalry, the companies operating in the space are strategically attempting to gain in size and scale, both organically and inorganically. Walgreens recently inked a number of deals to diversify its product offerings and strengthen its retail pharmacy business. The company is currently focusing on its front-end stores’ expansion and announced partnerships with the likes of Kroger and FedEx. CVS Health adopted the growth-by-acquisition policy to defy all odds (through vertical integration by acquiring health insurance giant Aetna).
  

• Emphasis on Chronic Disease Care: The modern pharmacy retail and drugstore concept stresses on chronic disease care and management. Irrespective of age group, millions of Americans are at present suffering chronic conditions that require lifestyle modifications and daily maintenance medications. These include Type I and Type II diabetes, heart diseases and dementia, such as Alzheimer’s. Per current data, a very small percentage of the population takes medication as prescribed and tries to bring positive changes in their lifestyle, exerting additional pressure on the healthcare system. Per the Centers for Disease Control and Prevention (CDC), three in four aging Americans have multiple chronic conditions, clearly indicating the hugely untapped market for pharmacy retailers dealing with chronic condition management. Keeping this in mind, CVS Health recently acquired Aetna while Walgreens is currently working with Alphabet’s (GOOGL) life sciences and health care segment Verily.

Zacks Industry Rank Indicates Weak Near-Term Prospects

The industry’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates bleak near-term prospects. The Zacks Retail - Pharmacies and Drug Stores industry, housed within the broader Zacks Retail and Wholesale sector, currently carries a Zacks Industry Rank #201, placing it in the bottom 20% of more than 250 Zacks industries. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry’s positioning in the bottom 50% of the Zacks-ranked industries is a result of pessimistic earnings outlook for the constituent companies in aggregate.

Industry Underperforms S&P 500 & Sector

The Zacks Retail - Pharmacies and Drug Stores industry has underperformed the Zacks S&P 500 composite as well as its own sector over the past three months. The stocks in this industry have collectively improved 12.5% over this period while the Retail-Wholesale Market has moved up 23.3%. The Zacks S&P 500 composite has increased 17.7% over the said time frame.

Three-Month Price Performance

Industry’s Current Valuation

One might derive a fair idea of the industry’s relative valuation from its price-to-earnings ratio (P/E ratio), which is commonly used for valuing retail pharmacy and drug store companies.

The industry is currently trading at a forward 12-month P/E ratio of 9.34, near its five-year low of 7.66. We also see that the industry is trading lower than the broader industry’s forward P/E ratio of 33.23.

Price-to-Earnings Forward Twelve Months (F12M)

Comparing the industry with the S&P 500 Index on the basis of the forward P/E ratio, we see that the industry is trading at a discount to the S&P 500’s 23.33.

Price-to-Earnings Forward Twelve Months (F12M)

Bottom Line

Amid the coronavirus-led economic crisis, worldwide production and supply disruption have put many smaller players’ businesses at stake right now. Many of these are currently unable to properly access credit or equity funding. If the situation persists, it can lead to a severe survival threat going forward.

Among the long-term trends, Amazon’s entry into drug distribution is undoubtedly a game changer but its immediate implications will be limited, given that the healthcare space is highly complex and regulated. Keeping the long-term expectations in mind, investors could take advantage of the cheap valuation and bet on a few Retail - Pharmacies and Drug Stores stocks that boast a bullish earnings view.

Stock to Buy

CVS Health Corporation: Headquartered in Woonsocket, RI, this industry player is a pharmacy innovation company with integrated offerings across the entire spectrum of pharmacy care. The Zacks Consensus Estimate for 2021 earnings indicates year-over-year increase of 6.3%. CVS Health, a Zacks Rank #2 (Buy) stock, has rallied 13.2% in the past three months.

CVS Health Price and Consensus

Investors may hold on to the following stock that promises a robust long-term growth potential.

Walgreens Boots Alliance: This is the world’s first pharmacy-led, health and wellbeing enterprise. The intensifying competition in the U.S. retail drugstore market has compelled Walgreens Boots to diversify its product offerings of late. Under such circumstances, Walgreens’ tie-up with Alphabet’s life sciences and healthcare segment Verily on multiple projects on chronic ailment buoy optimism. The Zacks Consensus Estimate for fiscal 2021 earnings indicates year-over-year increase of 8.5%. Walgreens, a Zacks Rank #3 (Hold) stock, has declined 1.7% in the past three months.

Walgreens Boots Price and Consensus

Here is a stock investors should avoid now.

Rite Aid Corporation: This is the third largest retail drugstore in the United States, based on revenues and the number of stores. However, the company is currently suffering from increasing competition on industry wide large consolidations. The Zacks Consensus Estimate for fiscal 2021 earnings indicates a massive 306.7% projected year-over-year plunge for the company. Rite Aid, a Zacks Rank #4 (Sell) stock, has returned 1.6% in the past three months.

Rite Aid Price and Consensus

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