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Walgreens Boots Alliance, Inc. (WBA) Q3 2023 Earnings Call Transcript

Walgreens Boots Alliance, Inc. (WBA)

Q3 2023 Earnings Conference Call

Company Participants

Tiffany Kanaga - Vice President, Global Investor Relations

Roz Brewer - Chief Executive Officer

James Kehoe - Chief Financial Officer

John Driscoll - President of U.S. Healthcare

Rick Gates - Senior Vice President and Chief Pharmacy Officer

Conference Call Participants

Lisa Gill - JP Morgan

George Hill - Deutsche Bank

Ann Hynes - Mizuho Securities

Michael Cherny - Bank of America Merrill Lynch

Lucas Romanski - TD Cowen

A.J. Rice - Credit Suisse

Elizabeth Anderson - Evercore ISI

Eric Percher - Nephron Research

Presentation

Operator

Good morning. My name is Rob, and I will be your conference operator today. At this time, I would like to welcome everyone to the Walgreens Boots Alliance Third Quarter 2023 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question-and-answer session. [Operator Instructions] Thank you.

Tiffany Kanaga, Vice President of Global Investor Relations, you may begin your conference.

Tiffany Kanaga

Good morning. Thank you for joining us for the Walgreens Boots Alliance earnings call for the third quarter of fiscal year 2023. I'm Tiffany Kanaga, Vice President of Global Investor Relations. Joining me on today's call are Roz Brewer, our Chief Executive Officer; James Kehoe, our Chief Financial Officer; and John Driscoll, President of U.S. Healthcare; Rick Gates, Senior Vice President and Chief Pharmacy Officer at Walgreens will participate in Q&A.

All references to the COVID-19 headwind on today’s call include U.S. vaccines, drive-through tests, and OTC tests. As always, during the conference call, we anticipate making projections and forward-looking statements based on our current expectations. Our actual results could differ materially due to a number of factors, including those listed on slide two and those outlined in our latest forms 10-K and 10-Q filed with the Securities and Exchange Commission. We undertake no obligation to publicly update any forward-looking statement after this presentation, whether as a result of new information, future events, changes in assumptions or otherwise.

You can find our press release and the slides referenced on this call in the Investors section of the Walgreens Boots Alliance website. The slides in the press release also contain further information about the non-GAAP financial measures that we will discuss during this call.

I'll now turn the call over to Roz.

Roz Brewer

Thanks, Tiffany, and good morning, everyone. I'd like to start today's call with an acknowledgment that our performance in the third quarter did not meet our overall expectations, and we are disappointed to have to change our fiscal 2023 guidance.

While we achieved good sales growth and return to adjusted earnings growth in the quarter, several dynamics created margin pressures that we are factoring into our full-year outlook, We have seen changing market trends that have consumers prioritizing value in response to a more uncertain and challenging economic environment. There has been a steeper drop off in COVID vaccines and testing with the end of the public health emergency. We are also experiencing a slower profit ramp for U.S. Healthcare. Importantly, we remain committed to our strategy through immediate actions to accelerate our path to profitability and unlock long-term value.

I remain confident in the long-term trajectory of our transformation, which is underpinned by significant progress against each of our four strategic priorities. We are continuing to transform and align our core business with advancements in our tech enabled pharmacy operating model. Today, we are announcing a scalable partnership with TelePharm to expand telepharmacy services; improve access to care; and provide flexibility for how and when patients engage with our pharmacists. Our model is also supported by our micro fulfillment centers, covering over 40% of our Walgreens store footprint.

In U.S. retail, our flat year-to-date comp sales have successfully lapped last year's record 8.8% growth and retail gross margin is up over 100 basis points yet again. We have also made significant progress on building our next growth engine in healthcare, rapidly establishing our portfolio of assets across the care continuum. VillageMD acquired Summit to create a leading independent care delivery platform, and we accelerated the full acquisition of Shield and CareCentrix. This segment has gone from zero sales contribution just two years ago to a run rate of $8 billion in the third quarter of 2023.

To fund our transformation and focus the portfolio, we have realized $4.1 billion in proceeds from the sale of ABC shares this fiscal year and also exited our Option Care Health position for $800 million in proceeds. Finally, we have continued to invest in strategic talent and capabilities, most recently, strengthening VillageMD's bench to welcome CFO, Rich Rubino.

Turning to the third quarter, WBA returned to adjusted EPS growth, up nearly 4%. Third quarter sales were solid, growing almost 9% in constant currency. U.S. comp sales were up 7%. Let me call out U.S. retail digital sales, up 19% on top of a 25% gain last year with 3.7 million same day pickup orders. International was also notable, up 6.9% in the quarter. It is clear that consumers continue to appreciate the value, convenience and range of services delivered by Walgreens and Boots.

Our increased expense discipline in the quarter only partly offset outsized margin pressure, and earnings growth was held back by three external factors. First, we saw lower-than-expected COVID-related demand, we had called out COVID as a wildcard heading into the quarter and have unfortunately seen less patient willingness to vaccinate. Walgreens administered 800,000 COVID-19 vaccines in the quarter, down 83% year-on-year and testing volumes are also down sharply. We are in turn taking the prudent [Indiscernible] of further reducing our expectations for COVID contributions going forward. We are currently projecting to administer 9 million to 10 million COVID vaccines next year in line with the typical flu season and compared to 12.5 million COVID vaccines expected in fiscal 2023.

Second and similar to other retailers, we've been impacted by the rapid softening of the macro environment and a more cautious and value-driven consumer. Our customer is feeling the strain of higher inflation and interest rates, lower SNAP benefits and tax refunds, and an uncertain economic outlook. They are pulling back on discretionary and seasonal spend and responding strongly to promotional activity. For example, promotional unit is running up 10% in the retail channel, including a sharp increase over just a five-week period, while non-promotional units fell 8%.

Let me add that we see the retail pricing environment as remaining rational. We have also seen some pressure on industry script volume excluding COVID, which may be related to these broader consumer headwinds. [Day fall] (ph) adjusted market growth excluding immunizations has slowed almost 2 percentage points from February to May. Our core retail pharmacy business is resilient and relatively well positioned in times of volatile consumer confidence. However, we're not immune to these external pressures and have trimmed our expectations accordingly, while at the same time ramping up our efforts around cost savings.

Third, we've experienced a drag from a recent weaker respiratory season. We are feeling the effects through our script volume through our front of store sales, especially in the higher margin cough cold flu category and in CityMD’s traffic trends. These trends are likely to persist into the fourth quarter against last year's category strength.

Importantly, we achieved strong quality of earnings considering a 4.7% adverse net impact to adjusted EPS from COVID the sale of ABC shares, sell in leaseback, incentive accruals, and tax. This trend gives us line of sight to accelerating adjusted operating income growth in the fourth quarter.

Let me turn to our updated guidance. We now expect fiscal 2023 adjusted EPS at $4.00 to $4.05, reflecting consumer and category trends, lower COVID-19 contribution, and a more cautious macroeconomic forward view. This guidance represents core earnings to be flat to up 1%, excluding COVID and currency. We are also providing preliminary fiscal 2024 commentary.

Let me be clear, there are some factors impacting us today that are likely to extend into next year, namely the macroeconomic-driven consumer pressure and COVID headwinds. We are closely watching emerging challenges to consumer spending and sentiment, such as the end of fiscal stimulus and the resumption of student loan payments. There are other factors that are more specific to our business today and should not be annualized into fiscal 2024, such as the weaker respiratory season.

Most importantly, we have undertaken several aggressive initiatives to enhance profitability and cash flow into next year, especially in our Healthcare business. We expect low-to-mid-single-digit adjusted operating growth in fiscal 2024 with the U.S. Retail Pharmacy and U.S. Healthcare Businesses more than offsetting headwinds from COVID, sale and leaseback and ABC. AOI growth should outpace adjusted EPS, due to offsets from higher tax and non-controlling interest. We will provide a more detailed discussion of 2024 guidance when we report fourth quarter and full-year 2023 results.

The positive operating growth trends with improving quality of earnings support our continued confidence in building to sustainable long-term low-teens adjusted EPS growth over time. To drive shareholder value, we are taking the following immediate actions to enhance profitability and accelerate our journey.

First, we are raising our transformational cost management program savings goal to $4.1 billion, this includes $800 million of savings in fiscal 2024. Second, we have implemented capital and project spend reductions, and we've launched a working capital optimization program. Third, we are pursuing portfolio simplification at an even faster pace. Fourth, we are announcing several specific actions to accelerate U.S. Healthcare's path to profitability focused on VillageMD and Summit Health. We are also accelerating the synergies between our U.S. Healthcare segment and our core Walgreens business.

We have a unique opportunity to improve local healthcare and wellbeing in this country. The flywheel of healthcare and retail pharmacy working together will deliver more affordable, accessible, quality healthcare to our communities and will also deliver sustainable shareholder value. It starts with our trusted brand and pharmacist, national footprint, and digital offerings. 58% of Americans are likely to visit their local pharmacy as a first step when faced with a non-emergency medical issue.

Add to that, our leading assets across the care continuum. VillageMD, Summit, Shield, and CareCentrix and our early work with health corners and clinical trials. We've created a platform at scale that is absolutely proving to help health plans and patients improve outcomes and lower cost. Our teams are expanding partnerships and driving greater market access, which is the next step to getting our will to turn. As healthcare and retail pharmacy jointly serve consumers, we will deepen engagement and reinforce our trusted brand.

Let's look at a few tangible examples of how we're driving that value through our integrated portfolio. In partnering with VillageMD, our team based healthcare delivery enhances adherence. We are building digital connections and standalone clinics. More than 30 in Arizona and Texas are now supported by Walgreens pharmacies virtually with more coming online in Georgia this summer. To make the virtual experience seamless, we're piloting a healthcare concierge program to provide extra care coordination. We are also exploring an integrated pharmacist ambulatory care model. The pilot has driven over 40% reduction in hospital readmissions over 30-days and a material A1C reduction in diabetic patients.

Remember also that roughly 50% of patients have co-located VillageMD clinics opt to get their prescription filled at Walgreens. VillageMD co-located sites that have been open for over [Technical Difficulty] per day. CareCentrix and a leading national healthcare services provider are partnering to offer a turnkey durable medical equipment benefit management solution and point-of-care platform for health plans. This should drive medical and administrative savings, while improving the overall member experience.

Shields and Walgreens are working together to establish Walgreens as the single contract pharmacy for health systems. Walgreens is also converting existing specialty pharmacy locations to Shield partners to increase access to specialty drugs and services. Finally, at Walgreens Health, we are exploring new healthcare service lines such as additional diagnostic services and data analytics and insights. We've already seen strong results with our at-home testing programs such as the one we conducted last fall with Blue Shield of California to boost patient access to colorectal cancer screening. Members due for screening had the opportunity to visit Walgreens Pharmacy locations across the state to pick up an at-home kit. The test completion rate was 50 percentage points higher when members chose pharmacy pickup, compared to those that received a kit in the mail. Based on these successful results, we are launching similar at-home testing programs with other payer partners.

In summary, our healthcare and retail pharmacy businesses are working together to improved outcomes and lower cost as only Walgreens can do. I’m not satisfied by today's headline guidance revisions. However, I see the enterprise approach coming together to deliver sustainable value to consumers, to our partners and to shareholders. We have the right strategy. We are driving good progress across each of our strategic priorities and we are taking appropriate measures to account for the recent macroeconomic challenges and uncertainty.

Through the necessary actions discussed today, we are pushing harder toward profitability with a strong sense of urgency, while continuing to reimagine local healthcare and wellness for all.

With that, I'll hand it over to James to provide more color on our results and our outlook.

James Kehoe

Thank you, Roz, and good morning. In summary, while we returned to adjusted EPS growth in the third quarter, earnings were below our expectations. As we encountered lower COVID contributions, shifting consumer behaviors, and a recent slowdown in respiratory incidences. Overall, we delivered 8.9% sales growth on a constant currency basis ahead of our plan, led by our U.S. pharmacy business, up 10%. Our Boots U.K. retail business, which delivered a solid 13% comp and our scaling healthcare business, which added $1.4 billion in sales versus the prior year.

Adjusted EPS increased 3.6% on a constant currency basis despite a 19 percentage point headwind due to a lower COVID-19 contribution and 8 percentage points from reduced ownership of AmerisourceBergen. These were partly offset by favorability’s from sale and leaseback, incentive accruals, and tax. All of these items net out to be a 4.7 percentage point headwind to EPS growth and this demonstrates overall good quality of earnings in the quarter.

As Roz discussed, we are lowering our fiscal ‘23 adjusted EPS guidance to $4.00 to $4.05. This updated outlook reflects consumer and category trends, a lower contribution from COVID and an overall more cautious forward view given the continued macroeconomic uncertainty. Later, I will provide more color around the key assumptions underpinning our revised guidance....

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