I worked in the drug store industry for a number of years. During my time in the business, there was massive consolidation. The industry evolved into three behemoths - Walgreens, CVS and Rite Aid- as the small mom and pop's drug stores and small chains were bought up en masse. It appeared that economies of scale would support a massively consolidated drug store business. For a while, that's what happened, but as time progressed the industry got squeezed in the middle between their suppliers and their customers. Suppliers tightly controlled the price of their drugs. Insurance companies controlled the price that their customers would pay. Add in that the massive buildup of "free standing" stores ate up their free cash flows.
When the big three decided that they each needed to slim down to a more realistic footprint of stores, they encountered other problems. Many of the stores that they built were sold and leased back to the big three on very long term leases. This meant they were better off keeping money losing store open because any amount of sales gross margin would cover at least some of their lease costs. None of their lease costs would be covered if a store was totally shut down. This created a dilemma and the only way to solve it was to keep the poorly performing stores open until the lease ran out. Given that these leases are 10 to 25 years in duration, it wasn't a good solution.
Drug stores' sales are split between "front end" and "back end". In the front is over priced merchandise that can be purchased elsewhere for much less. The back end is all the drugs sold by the pharmacy. The competition is high in both ends of the business. Many other retailing businesses whose core business is not pharmacy have gotten into the drug business - grocery stores, mail order, amazon, target, Walmart, etc. All these issues keep a tight cap on revenue growth.
I originally held CVS because I thought they would be able to leverage their commodity business into a niche for medical services. So far, they have been unable to do so.
All the above economic and competitive factors point to a business that has the walls falling in around them. In my opinion, the big three drug stores will still continue to exist, but only as commodity type businesses. This means their profitability will be very low, much like commodities. With commodities it is essential to operate a businesses with very tight and controlled processes. These commodity type businesses fail if they are not managed tightly with unfailing cost controls.
Maybe some day, they will be able to encroach upon the frothy medical business, but for the last 20 years, they have tried and it hasn't happened.
For these reasons, I say sayonara to the drug store business.
Be smart, be well-read, be aware and be successful,
