Walgreen plan to slow store growth should positively impact earnings, says Barrington Research's Leckow

By Paul A. Harris

St. Louis, Nov. 20 - Walgreen Co.'s plan to slow its pace of opening new stores to 5% by 2011 from the present rate of approximately 8% should have a positive impact on the company's earnings, said Derek Leckow, analyst for Barrington Research.

John Spina, vice president and treasurer of Walgreen, discussed the plan - part of the company's $1 billion cost-cutting campaign - Tuesday at the 2008 Morgan Stanley Consumer Retail Conference.

Spina said that the reduction, which will slow the per-unit growth to approximately one store a day during 2011, should free up $500 million in capital expenditures.

The Walgreen VP added that the company has plans, now, to grow over time by 13,000 stores.

Significant move

Barrington Research's Leckow believes that slowing unit growth is a very significant move for Walgreen.

"There is a transition underway at Walgreen," the analyst said, adding that the company has it within its power to help earnings.

One-third of Walgreen stores, representing primarily the newest ones in the chain, are unprofitable, Leckow explained, adding that it typically takes three years for a new Walgreen location to begin turning a profit.

"That represents a tremendous anchor on earnings," the analyst said.

"So slowing down the growth program will bring that percentage of unprofitable stores down, which should have a positive impact on the earnings."

Shares outperform

Walgreen shares (NYSE: WAG) hit their 52-week low of $21.28 on Oct. 27. Since then, the stock has gone up approximately 6½%. During that same period, the Dow Jones Industrial Average has fallen nearly 7¼%.

On Thursday, with the Dow down slightly less than 5.3%, Walgreen shares dropped only 0.7% after spending most of the session in the black.

At Thursday's closing price of $22.85, Walgreen shares are nearly 43% off their 52-week high of $40.04 per share.

However, Leckow, who has the stock on a "market perform," does not see Walgreen shares as being oversold.

Another analyst who covers the company, but who only agreed to speak on background, also believes that Walgreen shares are not oversold.

This analyst, who has an "underweight" rating on the shares, believes the recent strength in the Walgreen share price reflects the sentiment that it is not expensive and could reflect a flight to quality in exceptionally volatile market conditions.

However this analyst cautioned that Walgreen's average lease cost has gone up, as have pharmacists' salaries.

And the source also takes issue with Leckow's view that slowing store growth is ultimately a good thing for Walgreen.

"Growing stores is something that they have done extremely well, over time," the analyst said.

This analyst stated a preference for CVS Caremark Corp. CVS shares (NYSE: CVS) are nearly 9% higher than their 52-week low, which, like Walgreen, occurred on Oct. 27.

On Thursday, however, CVS shares lost 3.74% to close at $26.80.

Walgreen is a Deerfield, Ill., drugstore operator. CVS is a drugstore chain based in Woonsocket, R.I.

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