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Will Walgreens’s Cost Management Improve Its Margins?

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Gross margin under pressure

Walgreens Boots Alliance’s (WBA) gross margin continued to contract in the first quarter of fiscal 2019 after contracting in fiscal 2018. In the first quarter of fiscal 2019, Walgreens’s gross margin contracted ~130 basis points to 22.6% due to a higher mix of specialty sales and lower third-party reimbursements in the company’s Retail Pharmacy USA segment.

Excluding the impact of one-time items, Walgreens’s adjusted gross margin was 22.8% in the first quarter of fiscal 2019 compared to 24.2% in the first quarter of fiscal 2018.

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Walgreens’s operating margin (excluding the impact of equity earnings from AmerisourceBergen) contracted to 4.0% in the first quarter of fiscal 2019 compared to 4.7% in the first quarter of fiscal 2018. On an adjusted basis, the company’s operating margin contracted to 4.9% in the first quarter of fiscal 2019 compared to 5.6% in the first quarter of fiscal 2018.

The improvement in the SG&A (selling, general, and administrative) expense rate in the company’s Retail Pharmacy USA segment was offset by a rise in the SG&A expense rate in its Retail Pharmacy International segment for a variety of reasons, including currency headwinds and lower sales resulting from challenging conditions in the UK market.

Efforts to improve its margins

Walgreens has been undertaking several cost-control initiatives, which have helped it improve its adjusted SG&A expense rate in the Retail Pharmacy USA segment for 22 straight quarters. In December 2018, Walgreens announced a transformational cost-management program that aims to deliver cost savings of over $1 billion by the end of its third year. Under this program, the company has implemented cost-reduction initiatives in the Pharmaceutical Wholesale segment and in its retail operations in Chile and Mexico.

Walgreens’s cost-management program will focus on creating a lean operating model and bringing about a digital transformation across the company. The company will initially implement its optimization initiatives in larger markets such as the United States and the United Kingdom and across its global functions.

In the next article of this series, we’ll focus on Walgreens’s valuation.

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