沃博聯公司 (WBA) 2008 Q2 法說會逐字稿

Good day, everyone.

Welcome to the Walgreens Company second quarter 2008 earnings conference call.

As a reminder, today's call is being recorded.

I'd now like to turn the call over to Mr.

Rick Hans, Director of Finance.

Please go ahead, sir.

Thank you and good morning, everyone.

Welcome to our second quarter conference call.

Joining me today are Jeff Rein, Chairman and CEO; Greg Wasson, our President; Bill Rudolphsen, our Chief Financial Officer; also in the room and available during the Q&A session is John Spina, our Treasurer; and Stanley Blaylock, Senior Vice President and President of Walgreens Health Services.

Jeff will begin with a review of our Specialty Pharmacy announcement this morning and key highlights of the second quarter.

Then Bill will discuss the detailed financial results of the quarter followed by Greg who will cover Walgreens health and wellness strategy and how it complements our retail pharmacy growth model.

Following our prepared remarks, we'll be happy to take any questions.

Please limit yourself to one question and a follow-up so that we may give an opportunity to as many investors as possible during our limited time.

I'd like to point out today's call is being simulcast on our Investor Relations website located at Investor.Walgreens.Com.

After the call this presentation will be archived on our website for 12 months.

Certain statements and projections of future results made in this presentation constitute forward-looking information that is based on current market, competitive, and regulatory expectations that involve risks and uncertainties.

Please see our Form 10-K for the fiscal year ended August 31, 2007, for a discussion of factors as they relate to forward-looking statements.

Now I'd like to introduce our Chairman and CEO, Jeff Rein.

Thank you, Rick and good morning, everyone.

Before we discuss the second quarter financial results, I want to update you on a significant contract announcement we made this morning.

Walgreens has signed an exclusive multi-year specialty pharmacy contract with Prime Therapeutics a pharmacy benefit manager owned by ten Blue Cross Blue Shield plans.

We are delighted to partner with prime therapeutics to provide the highest quality care and service for any of their 20 million members with Specialty Pharmacy needs.

We're excited about the potential this contract offers us.

These are large clients, and will concentrate on a flawless start up.

We will be phasing in the individual plans over time.

We strongly believe that our independence from the major PBM's is a significant factor in winning this business and our independence will help us consistently win contracts over the long term.

Customers are telling us they prefer to be aligned with a Company that isn't involved in services with which they may be competing in the future.

Now let's turn to the second quarter.

We reported record quarterly sales of $15.4 billion, an increase of 10.5% driven by continued organic expansion and acquisitions.

Despite comparisons to a 27% net earnings per share increase a year ago, we increased net earnings per share by 5.2% this quarter to $0.69 compared with $0.65 a year ago.

For the second consecutive quarter, we benefited from disciplined cost control and solid execution.

We controlled costs while facing tough comparisons with last year.

We executed our growth strategy with the opening of 121 new stores, 41 more than during the year ago quarter, and including our first store in Washington D.C.

And we grew our market share while improving overall customer service with this by store level complaints trending down.

Sales improved as the quarter progressed.

While Christmas seasonal sales were weaker than expected, we rebounded with strong Valentine's Day sales.

We also showed that our core product categories including our popular private brand business, insulate us from the full impact of a slowing economy.

Some of the sales challenges we face in the quarter included the withdrawal from the market and cautions on the use of cough and cold products for children six and under and the late flu season, which when it finally hit didn't generate the level of related prescriptions seen in 2007.

During the quarter, we also aggressively priced digital photo prints, while that created margin pressure in the short-term it will drive more front end business over the long term.

During this fiscal year, we've executed the classic balancing act very well.

We're controlling costs in a challenging economic environment and delivering results in the short-term while making the needed strategic and capital investments to ensure our success over the long term.

Now, I'd like to introduce our CFO, Bill Rudolphsen.

Thank you, Jeff, and good morning, everyone.

Let's briefly discuss our second quarter financial performance.

Jeff already provided our total sales and earnings numbers, so I'll move into more specifics.

Total sales in comparable stores were up 4.7% in the quarter, while front end comparable store sales increased 4%.

Prescription sales rose 11.1% for the quarter and 5.2% on a comparable store basis.

The number of prescriptions filled in the second quarter increased 3.6% on a comparable store basis.

That compares to a 2.3% increase, in total U.S.

retail prescription volume during the same period according to IMS Health.

Gross margin dollars and overall profits are being impacted by tough comparison to an usually strong period a year ago, which benefited from the introductions of blockbuster generic versions of name brand drugs Zocor and Zoloft.

Total gross profit in the quarter was $4.4 billion, a 9.9% increase compared to a 16.7% increase the prior year.

Gross profit margins decreased 14 basis points versus the year ago quarter to 28.82.

In the front end we saw them decrease because of the sales mix shifting to lower margin items.

In the pharmacy, margins increased with the growth in generic drug sales, but as pharmacy sales grow faster than front end sales, they reduce overall margins which are lower in the pharmacy than the rest of the store.

The LIFO rate remained unchanged this quarter compared to the first quarter but in last year's second quarter we lowered the LIFO rate by 50 basis points resulting in a LIFO Provision of $13.4 million in last years second quarter, less than half the $30.6 million recorded this year.

As Jeff mentioned, this quarter, we again demonstrated strong discipline in SG&A expenses which increased 11% over the year ago period slower than the 14.3% increase in last year's quarter.

The improvement was primarily the result of a slower rate of store salary growth.

We also saw contributions from lower legal and insurance expenses.

Our entire organization continues to focus on taking a highly disciplined approach to managing our SG&A spending.

As a percent of sales, SG&A expenses increased 11 basis points versus the year ago quarter to 21.75.

The effective tax rate was 36.82% compared to a rate of 36.75% in the year ago period.

We anticipate a tax rate of about 37% for the fiscal year.

Cash flow from operations totaled $1.5 billion for the year-to-date.

Total short-term debt stood at $728 million at the end of the second quarter.

We'll continue managing our balance sheet for maximum financial flexibility and to support our core growth strategy.

We expect to fund the acquisitions of I-Trax and Whole Health Management with commercial paper and short-term notes.

Inventories in the second quarter climbed 12.2% slightly ahead of our 10.5% sales gains.

Inventory levels were affected by our non-comparable Anderson, South Carolina distribution center, additional pharmacy distribution capability at our Perrysburg, Ohio, facility and the launch of over the counter Zyrtec.

I'd like to quickly note that our integration of Option Care, the specialty pharmacy and home care provider we acquired last August is going well.

We are on target to reach our $15 million synergies goal this fiscal year.

I also want to note that we continue to target at least 15% ROIC on our acquisitions and organic growth initiatives.

Store growth includes plans for total square footage increases of approximately 8% per year while our strong financial flexibility allows us to act on acquisition opportunities as they come up.

Now I'd like to turn the call over to our President, Greg Wasson, for an update on growth initiatives.

Thank you, Bill, and good morning.

I'd like to briefly touch on recent progress in our strategy to 1) extend our pharmacy service offerings; 2) expand our store base; 3) add new store services that give our customer s more reasons to shop with us.

Through these initiatives we will grow earnings and add shareholder value.

We see a tremendous opportunity in pharmacy and wellness care to connect the dots for patients and payers.

That's what our recent moves are doing.

With the formation of month of our Walgreens health and wellness divisions plus the acquisitions I-Trax and Whole Health Management we will make healthcare services more convenient and successful.

We'll do that by tying these businesses with our other services to create almost 7,000 points of care, that includes retail pharmacies, in-store Take Care health clinics, work site health centers and pharmacies and other outlets.

Our platform will provide pharmacy services near the patients home or at work, specialty pharmacy products and patient management services needed for these complex and expensive medications, home care services including respiratory and home medical equipment programs, and new services such as wellness programs, disease management and occupational health services.

These services and the access points for reaching our patients that they provide allow us to become a close advisor to employers and health plans.

We will help them reduce costs and improve the quality of health care for their employees, dependents and retirees and our trusted brand will extend further into the healthcare sector.

Meanwhile, our store expansion continues as we take advantage of current opportunities that will position us as the leading drug store retailer for years to come.

We opened 290 stores in the first half of fiscal 2008, ahead of last year's 223 first half openings.

We're on pace opened 550 new stores this year with a net gain of more than 475 stores after relocations and closings.

We have the leading market share in 121 major markets including Chicago, Dallas, Miami, Phoenix, St.

Louis, and San Francisco.

We're also growing through pharmacy file buyouts.

We acquired pharmacy files from 43 pharmacies across the nation plus 27 Rite Aid stores in the Las Vegas area in the second quarter.

These buyouts quickly build our pharmacy business and in many cases, we add quality pharmacists and staff with strong ties to the community.

We've had better than expected success in Las Vegas with the Rite Aid patient file acquisition.

Vegas is a great success story for us where we've gone from no credit in 1996 to the market leader today.

We will continue to track competitive developments in the individual markets and take advantage of acquisition opportunities as they come up.

We also continue to improve customer traffic and add sales opportunities through front end store initiatives such as digital photo services, printer cartridge refills that will expand from 3,000 locations today to 4,500 locations by the end of the calendar year and DHL shipping services which is will virtually chain wide by December.

All of these services add up to what the online world calls a "Sticky Shopping Experience".

So now, I'll turn the call back to Jeff.

Thanks, Greg.

Before we move on to your questions, I'd like to thank our 230,000 employees who delivered the results we reported this quarter.

Success always begins with serving our customers and patients and five million of them pass through our doors every day.

I'm looking forward to welcoming our new I-Trax and whole health co-workers, you'll be a great addition to helping us provide convenient and accessible care to our patients including many who are new to Walgreens.

We'll also work hard to exceed the expectations of our specialty pharmacy patients coming to us through our new contract with Prime Therapeutics with access to their 20 million members combined with our existing Specialty Pharmacy business, we are a major player in this industry.

All of this positions us well to create long term shareholder value.

Thank you.

Folks, that concludes our prepared remarks.

We're now ready for your questions.

May we have our first question?

Yes, thank you very much.

(OPERATOR INSTRUCTIONS) Our first question today will come from Mark Wiltamuth with Morgan Stanley.

Thank you.

First, on the SG&A improvements, could you let us know how much of that was from legal and insurance and then maybe give us an idea of how much more SG&A improvement you could have here?

Have you really reduced the 24 hour store count and what are the other opportunities?

Yes, hi, Mark, this is Jeff here.

Approximately 60% of our reduction was on the payroll side, about 40% was the legal and insurance experience.

Our goal as you know is that 11 to 12% increase in SG&A.

There is more room.

We have taken some action on 24 hour stores where they haven't made sense.

We do look at the numbers of course, we look at the trade area and we want to make sure that we serve people properly, where there's an opportunity to save dollars and serve the folks just as well and of course we would reduce our 24 hour stores.

If you could talk just a little bit about the making out trends, it seems like the worst of that should be over here in February and maybe a better half coming in the second half with generics, maybe you could talk about that a little bit.

Are you talk about the generic pipeline?

Yes.

As you know, this is a weaker year than normal for brand going to generic and it's still a little bit weak towards the end of the year, however in 2009 and 2010 in particular it picks up very very nicely.

We do try to take advantage of all brands, generic opportunities obviously but once again it's just a little bit weaker this year as it has been in the past.

Mark, I would add to that in the third quarter of last year, our gross profit increase was 16% so that still is a challenging comparison and it gets more favorable in the fourth quarter.

Okay, thank you.

Next we'll hear from Mark Miller with William Blair.

Hi, good morning.

Good morning, Mark.

I was hoping you could share more on the Prime Therapeutics contract as it relates to timing.

You talked about phasing that in and also anything more you can share on how that's going to impact you financially and will you need to build and invest ahead of the earnings growth as you do with stores or does the flow through improve relative to the retail model as you expand it?

Yes, Mark, that's a good question.

Let me turn that over to Greg Wasson who has been really involved with Prime Therapeutics now for quite awhile.

Yes, Mark, thanks good morning.

First, we definitely want to say we're excited to have been chosen by Prime Therapeutics for this exclusive opportunity.

We've known Prime for quite some time, Tim Dickman and his management team run a great shop, they do a -- they've done a great job serving their affiliated Blues Groups over time so we're really looking forward to the opportunity.

As far as the timing it would certainly be somewhat hard to predict because most of these plans will be phased dover time.

We certainly think that over time that most if not many of the Blues will begin to use Prime Therapeutics product but I would say that with any large contract, obviously the first thing we're going to want to do is make sure that we execute the first plan or two that come on board flawlessly.

We know that Prime and the Blues will certainly expect that.

As far as the financial impact it is tough to predict because the plans will rollout over time.

We certainly think it's a huge opportunity because of the significant specialty spend these Blues have but certainly hard to expect or to predict.

Capacity, I may turn it over to Stan Blaylock who is with us here.

I think we have absolutely plenty of capacity and if you think back at the some of our recent acquisitions a year and a half ago we acquired Med Mart for just that reason, we acquired management expertise as well as capacity to scale and certainly with Option Care last year with our national fusion capabilities we have plenty of capacity.

So I think we're in great shape, looking forward to being part of it.

Stan, anything you want to add?

I would echo what Greg said, Mark.

We clearly have capacity leverage with our dedicated central fulfillment facilities in both Pittsburgh as well as Ann Arbor operation which we have out of Option Care.

We also now have a dedicated Specialty Pharmacy facility in Portland, Oregon so we have plenty of capacity to handle that and are looking forward, as Greg said to working with the Prime folks who really, I think, chose us because we have a high quality independent service offering that meshes nicely with the high quality integrated medical and pharmacy services they're trying to provide to their customer base.

Okay, great, thanks.

My other question is as we think about the easier comparisons coming up, I notice that Walgreens been tracking on a two year basis at roughly a low 30% rate, which averaging across the two years is about in line with your long term growth rate.

Should we think about that continuing more or less into the back half of the year?

I know you don't want to have guidance but on the other hand I know you also have an interest in analysts being in the right ballpark.

Mark, I would say certainly, our long term goal is to achieve the earnings growth that we have achieved in the past.

I would again point to the third quarter as a little bit of a challenging comparison considering the significant gross profit improvement we experienced last year and again, the fourth quarter gets easier as our earnings actually fell last year in the fourth quarter.

Okay, thanks.

John Heinbockel with Goldman Sachs has our next question.

Yes, can you guys speak to performance of new stores?

Specifically maybe look out over a couple year period here, but sales, script count, EBIT margin, return on capital, how are new stores performing compared to two or three years ago or further back?

Has there been any slippage there in the performance?

John, that's a good question.

I know people are concerned about our new stores as we showed in the charts last time they are doing very well based on trend, based on history, but Bill I think you have some thoughts on that.

Yes, John, I would point you to the charts that we illustrated in the last quarter's call.

Our script count and our front end sales are still performing for a new store base as they had in the past, so we feel very good about our performance in new stores.

How about return on capital?

Same thing.

We did illustrate some return on capital numbers in that slide last quarter and we do see it increasing over time.

So what to you think as you look forward here, because a lot of retailers tend to slow expansion only after returns have fallen and as you look forward, what are the kind of puts and takes you guys look at to -- is what we're seeing today likely, do you think it's likely to continue or when you look at whether it be changes in reimbursement, maybe competition at the front end, do you think returns go down over time or as you look out a couple years what's your thought?

This is Jeff.

There are fabulous opportunities to continue to expand.

As you know, the age rate, nothing is going to slow that down.

People are going to continue to get older, they are going to continue to take medications, which we are a major provider.

They are going to continue to use pharmacy services whether that specialty, immunization, flu shots and they like the convenience of the smaller store.

I think you even see some of the competition now trying to experiment with smaller stores because as the population gets older they want accessible healthcare, they want accessible service and they want it to be convenient at the same time so we are very very well positioned.

The stores we're building they're in A locations, great demographics, great trade areas, there's no reason to think that we're going to do any worse at all, in fact maybe we'll even do better as other competition consolidates or goes out of business.

And finally, what's your capacity on stores?

Whats the big limiting factor today?

Just people or locations?

Locations are not a problem.

I would say it does come back to the people.

We want to make sure that we have the proper trained personnel to staff the stores not only in the front end but in the pharmacies and it's a real balance, of course.

We want to balance to make sure we get the best sites.

We don't want to over-reach and be pressured to make some number.

We do want to make sure we get that return on investment that we've been targeting and we'll keep going after the best of the best.

Okay, thanks.

Our next question will come from Ed Kelly with Credit Suisse.

Good morning.

Good morning, Ed.

Your gross margin was down less than it was in the first quarter especially on a FIFO basis.

Is this because the front end or sorry, is this because the pharmacy margin was up more year-over-year than it was in Q1 or is it because the front end margin declined less?

And then how should we really think about the gross margin for the remainder of the year?

Does it continue to get better from here?

Get worse?

Should we just assume a similar trend?

Yes, sure, let me turn that over to Bill for an answer, please.

Yes, we are seeing better margins in the pharmacy.

I do believe that that will continue.

As Jeff had mentioned, we'll see probably a bigger increase in '09 and '10 as generics come out in the marketplace.

On the front end, it was a challenge in the quarter.

We did have a softer seasonal season in December.

We did see sales of lower margin items as the economy tightens, I think we'll continue to see some of that.

In addition, we were a little bit more promotional, especially in the digital photo area.

I think that that will probably continue as the economy tightens here.

Okay, great.

And then just to follow-up here, your front end comps if you kind of look historically grew at an average rate of maybe about 3% or a little bit more prior to 2004.

Now, the growth over the last few years was obviously in the 5 to 6% range.

But it's decelerated recently.

Which of these two growth rates should we think about going forward over the next few years?

Are we seeing a reversion back to the mean, maybe you could just kind of help us understand how you're thinking about that?

Yes, I think a reversion to the mean does happen of course.

I think one of the things to consider over the past couple of years is that people felt extremely wealthy with the stock market, their houses, all that sort of thing so their discretionary spending was up.

Right now, they are being very careful on the type of products they buy.

They are trading down a little bit.

We're seeing more ad sales versus the everyday basic sale and I think once again, people are looking for that value.

We'll continue to do well based on our convenience and access but people are really looking for that sharp price, that value price that makes a difference.

However, there are a lot of things that we're going to get into that Greg has talked about in the past where it will help increase sales.

As you know, the ink cartridges, the refills we'll have those in 4500 stores so that's a way of driving business, we'll have DHL in almost all our stores, once again it gets back to convenience, and offering that consumer value.

Great.

Thank you.

Deborah Weinswig with Citi has a question.

Jeff, you talked about sales improving as the quarter progress.

Is that a combination of traffic and ticket or can you dig a little deeper for us?

I think what happened was in December people were really shocked almost not only with the Stock Market but with the housing crisis and folks scared of losing their job and that sort of thing so we did see a trend of down seasonal sales or slowing of seasonal sales; however when you look at Valentine's in particular in terms of seasons, it's one of those things is who is going to forget their sweetheart so we had phenomenal, phenomenal Valentine's sales that worked out very well and once again as people are looking for value and in terms of our advertising, it really helped drive those sales.

And would you say during the quarter that traffic improved?

Traffic, it's hard to say on that in terms of the quantifiable but it's about 50/50 in terms of traffic and then ticket.

And then obviously on the SG&A side it's very impressive in terms of what's happening at the store level.

Can you talk about how you are optimizing labor differently now than you have in the past?

Well, in the past as we mentioned before, we didn't really follow the budget as well as we should have.

We do have the district managers and store Vice Presidents sitting down with the store manager and deciding on a budget , what is appropriate for the front end and what is appropriate for the pharmacy, and one of the things that got us in trouble last year is we did not follow those budgets as well as we should have.

We do follow the budgets now and people track that, we look at it usually twice a week but no less than once a week and once again we make sure we follow the budget that is set up through the system and through people talking with each other, and it's worked out very very well for

Yes, and Deborah, Greg.

I think the other thing that Jeff alluded earlier to one of the callers was that we're really looking at every store's opening hours.

Looking at competition, looking at what makes sense for the store and really getting laser focused on when the store should be open, how long it should be open, et cetera.

So are there any changes in processses or procedures or is it mainly being very budget focused and mindful of kind of hours?

It's attention to what the hours are needed to serve the folks, not only in the pharmacy but out front.

As we mentioned complaints have continued to trend down and many many years ago, for example, we would just cut 20 hours per store across the chain.

Didn't make sense, so if a guy or gal was doing very well, they still lost the 20 hours.

What we're doing now once again is we're focusing on that budget and what is really needed to serve our customers well.

Great.

Thanks so much.

You're welcome.

Our next question will come from Scott Mushkin with Banc of America Securities.

I wanted to get back to the Prime Therapeutics just to understand a little bit more about the opportunity.

So what was the total specialty spend that these 10 blues we're doing and how quickly will it ramp over to you guys?

Will they all have to use the Prime PBM service or no, I guess just a little bit more clarity there?

And then the integration, I know you guys have been putting together pieces of the specialty business and you said there really isn't much investment to be done but maybe you can give us a little color on how the integration of all of the separate businesses going in order to handle this type of contract, do you have to put a lot of systems in place to get it done.

Yes, Greg, do you want to answer that one, please?

Yes, Scott, maybe I'll take a shot and have Stan come on in on it.

As far as go back to when will the Blues, the various groups come on board.

Again, Prime Therapeutics realized that they wanted to really put together a good solution, specially solution they realized that they didn't really want to outsource and chose us, I think for a lot of reasons, primarily because they valued our independence as a specialty pharmacy provider.

I think they also realized that with Med Mart we had a longstanding relationship with a very respective blues in Western Pennsylvania high mark, so I think that's what they're looking for us to bring to them.

As far as the Blues groups that hey work with, they obviously are at will to make their own decision as to who they use and when.

I think because that they are affiliated and/or have ownership within Prime Therapeutics, they certainly will be looking to utilize all the resources that Prime brings to them and that's the reason Prime put together this solution so as I said earlier I think that many, if not most will come to us and will use and try us over time and our key will be to really start off strong with the first one or two that come on board.

As far as the integration, maybe Ill turn that to Stan and let Stan talk a little bit about the integration.

To continue on what Greg said too, Scott, when you look at the overall spending amount, there are 20 million sort of underlying medical lives when you look at the Blues plans that are investors in the Prime and Prime Therapeutics.

So the opportunity is both on the pharmacy benefit side and medical benefit side so it is a tremendous amount of spending.

We're not commenting on the value of the contract as we indicated in the release.

As it relates to our systems aspect this will be run on our current platform, our script med operating system so we've invested significantly in that system a and have already rolled that out to our multiple facilities, so from a systems integration perspective we're already there in terms of being able to handle it.

Obviously we will be coordinating that tightly with Prime who is going to be handling some of the front end functionality as it relates to things like eligibility and prior authorization and some of the clinical oversights but we're already there from a systems perspective as well.

All right, perfect and maybe just one follow-up.

This actually has to do with the front end.

I know you guys signed that DHL contract.

How does that work exactly?

Is there a certain volume, some I guess maybe a little insight into the profitability there, clearly, you're trying to get more people comp your stores to use these services but is there any kind of volume break that you guys need to see to make it profitable or is it profitable from the beginning?

Well, there is obviously a volume break in packages per store.

We wouldn't give out those figures at this point but one of the things it does do is get folks into Walgreens on a timely basis when they need to mail their packages and obviously they pick up other supplies, they do impulse purchasing and things of that nature.

DHL is helping us spread the word that Walgreens stores have this.

We think it's one more way to leverage the box and leverage what's going to on.

Ties very very well into our digital and certain home office services.

It's just a furthering of how we can serve our customers as we need to serve them.

There's a packages per store breakeven point?

Is that correct?

There is and we do have that.

Any insight how that's going so far?

It's going actually very well in the areas that we piloted, it's been extremely good.

As you know there's a lot of small business owners, a lot of entrepreneurs, a lot of people that don't want to wait in lines at the post office or maybe a post office is too far for them, with over 6200 stores across America we are very convenient for people to send their package whenever they want to.

Great.

Thanks.

That's it for me.

Thank you for answering my questions.

You're welcome.

Our next question will come from Eric Bosshard with Cleveland Research.

Two things.

First of all, on the prime, two follow-ups.

Did the Blues go their own independent ways previously to get their specialty needs dealt with?

Yes, Eric, Greg.

It's my recollection I believe that some of them used a previous provider from Prime and then others may have used their own specialty provider and gone their independent route.

I think this is Prime's intent to really put together Prime's quality solution with Med Mart to be able to go to the Blues and really offer them a complete package.

I certainly understand the confidentiality of the size of the contract but can you just give us any guidance at all of what the total spend was that is potential or what was done within this group, not what the contract is for but just to give us an idea of how big the pie might be?

This is Jeff.

We just signed the contract with them.

We obviously have to see the uptake in terms of specialty.

It will be phased in over time.

As we learn more, we can tell you more about it but let's get started with it and make sure we do it very well and then we'll get into the numbers.

And then secondly, the gross margin performance in the quarter was quite strong and was different than 1Q in terms of the year-over-year comparison and I understand there's lots of moving parts, the front end being one but the pharmacy progress in the quarter, which seemed material versus the first quarter, is that sustainable?

I'm just trying to figure out if the 1Q or the 2Q experience is what we should be thinking about for the second half of the year?

Bill, you want to answer that one, please?

Sure, I think what you're seeing there, Eric, is a lift in the pharmacy margin related to generics.

Again, generics always drive the pharmacy margin.

I certainly, this thing can certainly move around but I believe it will be sustainable for awhile and again, as new generics come out, we would certainly see a lift.

Okay, that's helpful.

Very good, thank you.

David Magee with SunTrust Robinson has a question.

Yes, hi, good morning.

Hi, David.

Couple things, really more follow-up.

On the new store side, are you actually seeing benefit in this environment on the Real Estate cost side of the equation as far as opening of stores?

Okay are you talking about land costs or building costs?

Exactly.

Yes.

There's been some weakening in some areas but it's not as pronounced as you're seeing in the residential areas.

We go after the Prime corners there's still a lot of competition for those prime corners and whether it's banks or our competition or Starbucks, whatever it may be, there is still competition for the very best corners, people want that easy in, easy out location.

So we're not really seeing much once again on the commercial side.

Does it make you change your decision whether to buy the property or just to lease?

It depends if we can work out with the developer.

We do like to buy as we can at times, but once again, depending on the property and the situation, the risk involved, we may lease the property.

With regard to the Specialty Pharmacy business, can you remind us what your approximate market share might be at this point in time and any goals you might have in that regards?

Yes, Greg here, David.

Today we like to think that we're the fourth largest specialty provider in the country but we also like to talk about we're the number one independent specialty provider in the country and I think that's where we're looking to really grow our businesses with the Blues organization, Prime Therapeutics and regional health plan, so we've made significant progress over the last several years with Med Mart acquisition, Option Care, with Option Care we're actually one of the largest and leading infusion specialty providers as well.

So I believe we've made good progress in market share.

Then lastly, when you mention the ROIC goal, for acquisitions, can you tell us what time frame that you would hope to achieve 15% and is that the first or second year or is that three or four years out?

David, this is Bill.

It would be over a long period of time, certainly we're not going to get there within the first several years very often, on a new store we're going to lose money as we've illustrated in the past.

Yes, well I was thinking more on the acquisition side.

Pardon me?

I was thinking more on the acquisition side.

I think your comments were related to--?

Yes, it's going to phase in over time.

I would say it's over the long term.

It's not going to be immediately within a two to three year time frame.

So, I would be thinking six to to eight years out over time.

I see.

Thanks a lot.

John Ransom with Raymond James is next.

Good morning.

We heard some of the wholesalers grumble a little bit about Fosamax that because it wasn't a 180 day exclusive that you had multiple manufacturers so the though, at least with the wholesalers is the product wasn't as profitable at the launch as they were hoping.

At the retail level given the multiple manufacturers, is that a plus or a minus for you in terms of kind of out of the box profitability?

I'm not quite sure what the wholesalers are saying here, but in terms of exclusivity and everything, if there's only one other manufacturer, then they don't drop the price as much, obviously.

If there's multiple manufacturers, it does help drop that price.

There's a lot of profit available there.

So all things being equal, looking at a Zocor where you had the 180 day and authorized and looking at Fosamax, where it's a free for all, would you prefer the Fosamax type situation over the Zocor type situation?

No, not necessarily.

Not necessarily we would not.

So I guess I'm confused.

So did Fosamax meet your expectations?

Any time that we can save the patients money, we can save the payers money and we can make more money for Walgreens we are satisfied.

Okay, thank you.

And next is Andrew Wolf BB&T Capital Markets.

I'm sorry, who is next?

I couldn't hear you.

Andrew Wolf of BB&T Capital Markets.

Yes, Andrew.

Good morning.

Jeff, how would you characterize the competitive environment currently and particularly if you could in reference or in comparison to other periods of consumer slowing, is it typical or do you think there's some major differences?

Well, the difference this time versus the last time when it slowed is we have phenomenal competitors.

I'd like point out that CVS and Rite Aid have really stepped up their game, Wal-Mart is doing very well, Target is well merchandised.

They do a very nice job.

We have Longs out there making progress, you have a lot of folks that are doing a great job today and you have the Internet.

In the past we didn't have as much in terms of competition being as top of the game as they are right now so I'd say it's a little bit tougher now than it was in the past and once again with all of this consolidation the strong gets stronger.

People are definitely looking for a value now.

They're definitely shopping Walgreens so we're going to be able to compete very very well.

Not only in the stores, not only in specialty but with our site.

We have one of the top rated websites right now that folks utilize so I'm very confident that we'll be able to fight against competition but once again they are very good.

Okay and just following-up, how about in the area more specifically like in circulars with other drug stores?

Is that, is it hotter or about the same as you've seen sort of in terms of trying to promote folks into the store?

Again, versus let's say the last downturn?

I would say based on what I've seen with different circulars with our drug store competitors and the mass merchants is that it's similar is that when we went into a lower spending environment that the ads heated up a bit as they did want to get folks into the store.

We do see our competitors getting aggressive particularly on the front page and the back page where people pay the most attention to so that is definitely heating up.

I have not seen any huge huge give-aways though that people are destroying profitability but there are instances where folks are obviously getting more aggressive than they might have a year ago.

Thank you and then I wanted to just follow-up on John Heinbockel's question on the new store performance.

Sure.

Get to the other end of the spectrum which is the mature store performance, I think I remember Dan used to say that drug stores are unique and they have a point of your tail on same-store sales, it's an annuity that keeps on giving and obviously with all of the up front losses for three years you kind of need that to get to the ROI's you guys are talking about so could you speak to really mature store performance?

Are the older stores still comping fairly decently as the way I understand the model to work?

Yes, mature stores are still doing well.

What's nice is we've been able to fill in in more areas than ever before, across the country.

This does hurt obviously the mature store on a dilutive basis maybe for a year to 18 months but overall once again as people get older they take more medication so we can still serve them better and they're shopping our stores more based on convenience and accessibility so they're still doing extremely well and the model still works.

Andy, once those stores hit the three year mark, after that, you're seeing midteens ROIC and I think we've disclosed that in the past.

That three to six year mark is really where stores take off and then I think beyond six years is where you're seeing more of an inflationary increase.

Okay, thank you very much.

That's helpful, thank you.

Our next question will come from [Shawn Roberts] with Lehman Brothers.

Hi, Shawn Roberts sitting in for Meredith.

Good morning, Shawn.

Good morning.

On the script growth I think there's been some questions on the front end but look hading at script growth trends I realize that flu is part of the slowdown in the current quarter, but as we start to move out of the flu season here, would you expect us to get back to that 5 to 6% script growth trend any time soon?

That's a very good question.

It really depends on what people's actions are.

I do believe one of the challenges of course is that people ramped up in 2006 on the Medicare Part D, so we're not seeing those huge increases that we did before.

With Zyrtec going over-the-counter right now that affects us by about 50 basis points.

I think the other thing that's happening too is that we're seeing more folks really worried about their spending so we have had some reports of people breaking pills in half, for example, either take it every day like that or take their medication every other day, things of that nature.

We still think the script growth is going to continue to do very well.

It has trended down in the United States though as you know over the last couple of years, so it's definitely a challenge for us but once again we're up to it.

I believe as more drugs come on line, particularly the generic drugs that does help drive the business as people can afford those medicine better than the brand side, so once again I'm quite confident of the future.

I don't know the exact number though.

Second question would be on I-Trax, I see that they're headquartered in Pennsylvania, to the extent you can say whether the clinics are geographically concentrated and if it is in that Mid Atlantic Northeast region, as you add pharmacies to these work site locations, do you think that will cannibalize your existing store base at all or will that be kind of a key part of growing into the new geographies where Walgreens isn't heavily concentrated today?

That's a good question and it will definitely, definitely play into our game plan.

Greg I think you have some comments on that?

Yes, Shawn.

I think definitely the latter, right?

As we go into some of the newer areas such as the Northeast Mid Atlantic that it absolutely will help us grow our brand, grow our recognition and help us grow in those areas.

The concentration, both companies are pretty much nationwide; however there is a large concentration in the Northeast and Mid Atlantic and that's one of the things that was appealing to us.

This is John Spina.

I want to add on to Greg's comment.

These aren't cannibalized in our existing stores.

They're at new Main and Main.

They're not -- it's not an either or.

It's another access point for these patients to get into our system so it really doesn't cannibalize.

It really just -- it is in 40 states and if we have a store down the street it's just another access point.

We have similar experience with our hospital clinics where these folks see us for the first time and they enter our network of pharmacies and stay with us.

Shawn, Jeff here.

You might consider an analogy could be the Take Care clinics where 20% of the folks using the Take Care clinics are new to Walgreens so we believe the employer on site pharmacies will be very very similar.

A lot of folks that maybe are not shopping us right now will get introduced to the Walgreens brand and Walgreens name and the Walgreens services will definitely get them into the Walgreens system and we'll be able to serve them and their dependents very well.

Great.

Thank you.

Bill Curry with UBS has our next question.

Good morning, thanks for taking the question.

I just wanted to ask another question about new stores and strategy going forward.

I think there have been some people suggesting that you may decide to pull back on new stores if you saw the returns declining.

As I see it though, the strategy has always been a long term one whereby you haven't been acquiring stores and you've been looking at all the best drug store markets in order to get access to the fastest growing markets which has meant that you've historically not had the store density that maybe your competitors have had in many markets, or that you would actually require.

So the question is, is actually pulling back on new store opening an option or is it absolutely vital to continue opening new stores in order to leverage your infrastructure and still limit your markets?

Well, we obviously believe in long term growth, so organic growth and acquisitions are major plans for us in the future.

As you know, we do buy other drug stores where they make sense.

For example, Palo Mall in Puerto Rico, been very well to us.

We bought those stores.

We're continuing to look for other acquisitions.

At the same time we want to continue our organic growth because you have the store as you want it, you have the people, the systems, everything is much easier and quicker and faster.

Plus, as the trade areas get denser and denser we find that many times you can build another store to service those folks that may have been serviced by a Walgreens store two miles away, now it's maybe half a mile or a mile to their house.

So a lot of it depends on the density but definitely we want to continue our organic growth and acquisitions.

Great and I wonder if I could also ask about seasonal sales.

Sure.

Obviously December is a very important month for seasonal sales, it tends to index higher than most months and are characterized by a lot of gift items are maybe more discretionary.

How should we think about other seasonal events in terms of their discretionary nature, clearly Valentine's is about cards and candy, maybe Easter is similar but some are seasonal.

Is that something that we should be a little bit more cautious of because of the nature of the items you're selling there and how about other seasonal events?

I wouldn't characterize it necessarily as being more cautious there.

One thing to keep in mind about seasonal products and the aisle that we do have is seasonal products create hope.

They create memories, and folks are very very reluctant to give that up.

We don't sell things that are very expensive.

I'd like to tell the story that maybe about three or four years ago we learned our lesson where we went after Christmas toys that were very expensive $50, $80, $100, we didn't do very well and we wrote off about $10 million.

Most of the items in our stores are $20, $25 and less, so for people to buy a cologne or a chocolate or a small toy for their child, I do not see that slowing down.

Where it's incumbent upon us to increase the profitability is to make sure we buy correctly.

Sometimes we can get very very enthusiastic as we all are in retail sales, but if we control our inventory, control the buy, the seasonal sales will still continue to do well.

One thing to keep in mind is that seasonal sales, it's like gravy, it's not there necessarily to provide all your profits.

We get that from our basic everyday sales whether it's drug, health products, beauty products, food products, but once again the seasonal is like icing on the cake, and if we can control the buy, folks will always be coming in to create those memories.

Thanks, Jeff.

You're welcome.

We have time for one final question and that question will come from Bob Summers with Bear Stearns.

Thinking through the gross margin line a little bit more, if pharmacy margins improve sequentially what's the right way to think about the front end margins and was there an acceleration in margin erosion and could you also give us some texture about how front end margins, current front end margins compare to levels that you had in 200?

Yes, Bill will answer that question, Bob.

Bob, front end margins certainly were impacted again, by the soft seasonal season and more promotions and I believe that that trend will continue in this softening economy.

We're going to have to be promotional to drive traffic I think that that trend will continue.

They are down versus the prior year, and, and I think that it's probably similar to prior recessionary periods that you're going to see softening margins on the front end.

And we're certainly thankful for the pharmacy margins to offset much of that.

Then what's the right way to think about the benefit from the extra day?

In terms of a number?

Yes.

I'd probably put about 1% on that, Bob.

Okay, and then finally I don't think that we've had this open forum since Trent Taylor left.

If you could maybe give us the circumstances surrounding that?

No, I'm sorry.

Trent did leave the Company, as you know was mentioned in our 8-K, but we have no comment on that.

Okay, thank you.

You're welcome.

At this time we'll turn the conference over to our host.

That was our final question.

Thank you for joining us today.

We'll announce March sales on April 2.

As a reminder with Easter this year, following on the earliest date since 1913, you'll need to look at combined March/April sales to get a true picture of the performance for those months.

Our next quarterly financial announcement will be June 23, when we announce third quarter results.

Before that, Bill Rudolphsen will present at the Lehman Brothers 11th annual retail and restaurant conference in New York City on April 30.

Then on May 28, Jeff Green will speak at the Sanford C.

Bernstein & Company 4th annual strategic decisions conference in New York.

Until then, we wish you a great day and remember, you're always welcome at Walgreens.

That does conclude our conference call.

Thank you for joining us today.