Introduction
For decades, Walgreens Boots Alliance (WBA) stood proudly as a cornerstone of the American retail landscape. Its investment-grade credit rating, once an impressive A+ from Standard & Poor’s and Aa3 from Moody’s, served as a symbol of financial stability and strength. However, recent years have revealed a different picture. In October 2023, S&P downgraded WBA’s senior unsecured ratings to BBB-, the lowest rung on the investment-grade ladder. Then, in December 2023, Moody’s downgraded WBA’s senior unsecured ratings to Ba2, considered “junk status” for the “fallen angel,” companies falling from investment grade. This article delves into the reasons behind the dramatic Walgreens downturn and explores potential consequences for the company.
Historical Context
WBA’s credit rating enjoyed a remarkable ascent, steadily climbing to an impressive A+ from S&P and Aa3 rating by Moody’s in the Mid-2000s. Fueled by market expansion and innovative practices, the company consistently outpaced industry averages in both financial performance and debt management, firmly establishing its A-category rating. This stellar rating reflected WBA’s consistent revenue growth, unwavering commitment to a conservative debt strategy, and, ultimately, its exceptional profitability.
The Turning Point
Several factors contribute to the erosion of WBA’s credit rating, including:
Debt Accumulation:
WBA’s aggressive acquisition strategy fueled a rapid rise in debt. The 2010 purchase of Duane Reade included $457 million of debt, leading to S&P’s first-ever downgrade. The 2012 acquisition of 45% of the equity of Alliance Boots more than doubled debt to $6 billion, culminating in the company’s first-ever downgrade into the B category by both S&P and Moody’s. Subsequent acquisitions, including the full acquisition of Alliance Boots in 2014, further strained the balance sheet, increasing debt to between $17 billion and $19 billion and leading to repeated downgrades by Moody’s. Most recently, in 2023, S&P and Moody’s downgraded Walgreens again due to persistent financial leverage exceeding four times EBITDA. Walgreens again increased its debt to finance additional investment in VillageMD to support its Summit Health Acquisition.
Cost Pressures:
Rising labor costs and other operating expenses have continually squeezed WBA’s profit margins. In 2008, economic pressures led to slower comparable store growth negatively impacting revenue and profitability, leading to two downgrades from Moody’s. Aggressive competition from traditional brick-and-mortar players and the rise of online pharmacy retailers like Amazon Pharmacy have changed consumer behavior, leading to decreased store foot traffic negatively impacting sales and profitability, eroding WBA’s market share. More recently, WBA’s strategic shift towards healthcare services has yet to translate into significant profitability, and the huge costs associated with these initiatives, along with ongoing reimbursem*nt rate pressures and a weaker consumer environment, are additional factors contributing to the 2023 downgrades.
Disputes:
Unresolved legal challenges continue to cast a shadow over WBA’s financial stability. In 2012, a protracted contract dispute with pharmacy benefits manager Express Scripts over drug reimbursem*nt rates triggered a credit downgrade from Moody’s. More recently, the ongoing opioid lawsuit settlements from states, cities, and municipalities against pharmacy retailers, including Walgreens, have already led to over $5.7 Billion in settlement penalties just in the East Coast settlement, which are expected to siphon off 5% of annual profits in payments over 15 years, further straining the company’s finances for the retailer. These significant penalties contributed to the recent downgrades from both S&P and Moody’s. While WBA is actively resolving these issues, their ultimate impact on future credit ratings remains to be seen.
The Downgrade And Its Implications
Moody’s recent downgrade highlighted concerns about WBA’s ability to maintain financial strength and meet its debt obligations in the face of challenging market conditions. This downgrade could have several negative consequences for the company, including:
- Increased Borrowing Costs: WBA may face higher interest rates when borrowing money, impacting its profitability and hindering future investments.
- Reduced Access to Capital: The downgrade could make it more difficult for WBA to raise capital for future investments or acquisitions, limiting its growth potential.
- Eroding Investor Confidence: A lower credit rating can erode investor confidence in WBA, potentially leading to a decline in its stock price and a decreased market valuation.
Moving Forward
WBA’s future credit rating outlook remains uncertain. The company’s ability to navigate the evolving retail landscape, address competitive pressures, and improve its financial performance will be crucial in determining its future creditworthiness. To regain investor confidence and improve its credit rating, WBA needs to take decisive action in key areas:
Effectively Manage Debt:
WBA is charting a clear course towards improved financial health using the following two-pronged approach that underpins WBA’s strategy:
- Strategic Asset Sales: The company has already made substantial progress in 2023, divesting $1.85 billion in AmerisourceBergen Corp. shares and $674 million of Cencora shares. These decisive moves demonstrate WBA’s commitment to shedding non-core assets and freeing up valuable capital for debt reduction and future investments.
- Potential Boots Divestment: The recent $1 billion payment to Legal & General Group Plc to offload Boots pension risks opens the door for a potential future sale of the Boots business. Previously valued by WBA at around $9 billion, such a move could significantly reduce debt and streamline operations, boosting overall profitability and financial health.
Improve Healthcare Profitability
WBA needs to take immediate action to build a clear path to profitability in its healthcare segment. This requires a strategic shift, focusing resources on core markets and implementing cost-saving measures like their recent announcement of closing 60 unprofitable VillageMD clinics and exiting five markets. These moves, along with ongoing efforts to streamline operations and deliver greater value to patients through initiatives like telehealth expansion, are expected to generate millions in cost savings and fuel revenue growth in key markets. By doubling down on its core strengths and pursuing innovative approaches, WBA can unlock the full potential of its healthcare segment and drive long-term profitability.
Focus on the Core Business
WBA needs to revitalize its core retail business by attracting customers back to its stores and enhancing its omnichannel presence. The company is already providing a more seamless shopping experience through the recent release of its Rx Savings Finder tool that finds free, third-party discount cards on prescription medications. It enables customers to compare prices on thousands of medications, provides transparent pricing before checkout, and is free to all Walgreens customers, with no monthly subscription or yearly membership needed.
Optimize Operational Costs
WBA is already slashing unnecessary expenses across the organization. From streamlining administrative processes to optimizing supply chain logistics, the company aims to trim at least $1 billion in costs by 2024 and over $600 million in capital expenditures. This financial fuel will be directed towards initiatives like expanding telehealth services, acquiring innovative healthcare technologies, and forging deeper partnerships with leading providers, all aimed at propelling WBA to the forefront of the healthcare landscape.
Conclusion
WBA stands at a crucial crossroads, its future hanging in the balance. Yet, beneath the surface of its recent struggles lies a legacy of resilience and innovation. This retail giant has weathered numerous storms before, and its ability to adapt and thrive in the face of adversity remains undimmed. As the retail landscape continues to evolve, WBA’s journey serves as a cautionary tale for traditional players but also a testament to the power of strategic reinvention. The path ahead may be arduous, but if WBA can effectively manage its debt, unlock the potential of its healthcare segment, and revitalize its core retail business, it has the potential to rewrite its narrative, becoming a beacon of hope in an age of digital disruption. Will WBA rise to the challenge and reclaim its place as a retail powerhouse? Only time will tell, but one thing is certain: its story is far from over.
