After seven months of painful estrangement, the U.S.’s largest drug retailer Walgreen (NYSE:WAG) finally hammered out a fresh multi-year pharmacy network agreement with the Pharmacy Benefits Manager Express Scripts (NASDAQ:ESRX) that will allow the PBM’s customers to fill their prescriptions at Walgreen stores, beginning September 15. The deal would bring a large part of the 90 million Express Scripts prescriptions, worth over $5 billion back to Walgreen stores, and also douse concerns over the future of Walgreen’s contracts with Medco Health Solutions, which merged with Express Scripts in April. The Walgreen stock soared 12% on Thursday following the news. Walgreen competes with CVS Caremark (NYSE:CVS) and Rite Aid (NYSE:RAD).
The Walgreen stock had lost more than 30% value since both parties failed to renew the previous contract that was to expire on January 1, 2012, over a reimbursement rate dispute. The impasse significantly benefited Walgreen’s competitors, particularly CVS Caremark, as millions of Express prescriptions landed at non-Walgreen pharmacies. At the same time, the number of prescriptions filled at Walgreen stores fell by 8-9% this year.
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CVS Caremark has also been quite aggressive in trying to retain its new customers by capitalizing on the delay in Walgreen and Express Scripts’ new deal. Walgreen will have to work hard to win back some of these sticky customers. The deal also addresses concerns and curiosity about the future of Walgreen’s business with Medco after the existing contracts expire.
Upside For Walgreen
During 2011, Walgreen filled close to 716 million prescriptions, with Medco and Express making up 17.5% and 12.5%, respectively, of Walgreen’s prescription market share during the year. Medco represented around 125 million prescriptions for Walgreen in 2011 compared to 90 million prescriptions associated with Express Scripts. Medco’s business is likely to decline to 108 million prescriptions in 2012 and further shrink to 74 million in 2013 as some health plans like UnitedHealth Group are expected to migrate out of Medco.
We had estimated that in the absence of an agreement with Express Scripts, Walgreen stores were likely to fill close to 650 million prescriptions during 2012 (compared to 716 million in 2011). With the fresh contract effective September, we estimate that Walgreen could fill around 20 million more prescriptions during the remaining year. For 2013, we expect the number of prescriptions could rise to 750 million. Based on these assumptions, there could be a 20% upside to our current price estimate of $34 for Walgreen and we believe the stock could be worth more than $40.
We are in the process of revising our $34 Trefis price estimate for Walgreen, in-line with the current market price.