Managerial Finance Drug Industry

ROE = Net Income /Shareholder’s Equity

Managerial Finance Spring 2008 January 11, 2008

Rico Spencer

Financial Ratio and Analysis of Walgreens Company and Rite Aid Corporation 2005, 2006, 2007

1. Introduction

Needless to say, a large percentage of the drugstore industry sales are driven by prescription sales. As the number of aging increases, the necessity for more drugstores will also increase.

The drugstore industry has become increasingly competitive over the past decade. Not only do retail drugstores like Walgreens and Rite Aid compete with each other, they also compete with other retailers including grocery stores, convenience stores, dollar stores, and photography development centers. This competition is only made possible by carrying large and varied inventories as well as market saturation and convenience via prime locations and extended hours.

Front end sales in over the counter nonprescription drugs, as well as beauty and personal care products significantly contribute to the total revenue experienced by these markets and in many cases may be the primary factor for attracting patrons.

2. Company Background

a. Walgreens Company

Walgreen Co. operates a chain of drugstores in the United States. These drugstores sell prescription and non-prescription drugs, and general merchandise. General merchandise includes beauty care, personal care, household items, candy, photofinishing, greeting cards, seasonal items, and convenience food. The company provides its services through drugstore counters, as well as through the mail, by telephone, and on the Internet. As of October 24, 2007, Walgreen operated 6,014 stores in 48 states and Puerto Rico. The company was founded in 1901 and is based in Deerfield, Illinois. (5)

b. Rite Aid Corporation

Rite Aid Corporation, through its subsidiaries, operates a chain of retail drugstores in the United States and District of Columbia. Its retail stores primarily provide pharmacy services. The company sells prescription drugs and various front-end products. It offers approximately 26,000 front-end products, including over-the-counter medications, health and beauty aids, personal care items, cosmetics, household items, beverages, convenience foods, greeting cards, seasonal merchandise, and various everyday and convenience products, as well as photo processing. The company offers its products under Rite Aid private brand. It serves customers covered by health plan contracts, which contract with third parties payors, such as insurance companies, prescription benefit management companies, governmental agencies, private employers, health maintenance organizations, or other managed care providers. The company has a strategic alliance with General Nutrition Companies, Inc. As of March 3, 2007, it operated 3,333 stores in 27 states. Rite Aid Corporation was founded in 1927 and is headquartered in Camp Hill, Pennsylvania. (5)

3. Key Ratios

In order to compare the trends or lack of trends for Walgreens and Rite Aid, several key ratios for 2005 to 2007 were calculated and graphed. Theories/explanations to support the obtained key ratio values have been provided to further develop an understanding of each company’s standing in the market place and will later be used to compare both companies to nonrelated industry ratios as delineated by the S&P 500.

Provided below is a list of the key ratios used and the categories used in their calculation. One important note of caution: after researching several sites to compare the key ratio data provided by MSN Money, I learned how important it is to standardize data when conducting a financial analysis. In other words, MSN Money, Yahoo Finance and Hoover provided different values for the key ratios, because they were calculated for different time periods and may have used different methods and adjustments in their calculations. In fact, some of the key ratios provided by MSN Money were completely different than those calculated using the correct formulas as outlined in Finance for the Non-Financial Manager.

a. Current ratio = Current Assets/ Current Liabilities

b. Debt ratio = Total debt/Total Assets

c. Turnover Assets ratio= Revenue/Total Assets

d. Sales Growth ratio= [Sales 1 вЂ" Sales 0]/ Sales 0

e. Net Income Growth ratio = Retained earnings/Total Assets

f. Debt/Equity ratio= Total Long term Debt/Total Equity

g. ROE = Net income/Shareholder’s equity

h. ROE Growth = Net income/ Average shareholder’s equity

4. Key Ratios Defined

1. Current ratio: an indication of a company’s ability to meet short term debt obligations. The higher the ratio, the more liquid the company is. If the current assets of a company are more than twice the current liabilities, then the company is considered to have good short term financial strength. On the other hand if current liabilities exceed current assets the company may have problems meeting its short term obligations.

2. Debt Ratio: this ratio indicates the proportion of debt a company has relative to its assets. Therefore it provides an idea of leverage of the company.

3. Turnover assets ratio: this ratio is used to determine the amount of sales that are generated from each dollar of assets. Companies with low profit margins tend to have high asset turnover, while those with high profit margins have low asset turnover. In the retail industry we would expect a very high turnover ratio due to competitive pricing.

4. Sales Growth ratio: this ratio provides a measurement of sales in �year 1’ versus sales in �year 0’. Ideally we would want sales to increase from year to year, in other words this is the percent change in annual sales as compared to the same period one year ago.

5. Net income growth ratio: This ratio represents the annualized rate of net income growth over the trailing one year period for stocks held by a fund. This gives a good picture of the rate at which companies have grown their profits. It is more desirable to have stocks with higher net income growth rates.

6. Debt/Equity ratio: measures a company’s financial leverage.