Shoppers Drug Mart on buying spree to build market share in quest for revenue

TORONTO – Shoppers Drug Mart Corp. (TSX:SC) has been on a buying spree and says more acquisitions are on the way in the next six months as Canada’s largest pharmacy operator moves to increase its market share by buying up independent pharmacies.

The Toronto-based chain reported Tuesday a weaker third-quarter profit as its bottom line continues to be hit by the impact of generic drug reform in several provinces. Still, it said it is using the opportunity to takeover smaller stores that are even more vulnerable because of the changes.

Shoppers Drug Mart — which has 1,363 locations across the country — acquired 21 drug stores in the third quarter, 19 of which were from Paragon Pharmacies Ltd.

And chief financial officer Brad Lukow said the chain has also closed the takeover of one large pharmacy in northern Ontario so far this quarter, with more deals expected through the first quarter of 2013.

“We see a pretty robust pipeline of acquisition activity, which we’ve been talking about for a while in terms of consolidation opportunity, we see that playing out,” Lukow said.

In recent years, the retailer has faced an onslaught of changes in Ontario, Quebec and British Columbia that cut generic drug prices to 25 per cent of the price of patented drugs — down from 50 per cent. Additional recent changes in Ontario have further cut the costs for the Top 10 generic drugs to 20 per cent of the price of the branded equivalent, which will hit the company even harder.

Shoppers banded together with independent pharmacies to stop generic drug reforms. The company has said those changes affect revenue by an estimated $750 million a year. But the smaller stores said the impact of the changes would hit them much harder.

Local druggists lamented that some would inevitably have to close down because prescription sales make up a bigger percentage of their sales mix and they wouldn’t be able to absorb the hit to their profits.

Shoppers has also ramped up “front of store” sales, on everything from groceries to cosmetics and is offering promotions such as waiving the $2 co-payment that it charges seniors in Ontario.

Lukow said the idea to waive co-payments has been more successful in getting the fast-growing seniors market segment through Shoppers’ doors, but still sees the program as a net investment in 2012.

“The incremental script count lift is above our original expectations, so we’re confident that as you get through the middle of 2013 we would be accretive on that program,” Lukow said.

Shoppers has also implemented a number of cost-cutting measures to keep its bottom line from bleeding red.

The company reported Tuesday that its third-quarter profit slipped to $168 million from $172 million a year earlier. It took a $13-million restructuring charge linked to downsizing at its head and regional offices to offset the impact of provincial drug-pricing reforms.

It laid off some 120 to 130 employees during the most recent quarter, mostly from its head office, but also some home health-care employees.

Adjusted net earnings per share, excluding the restructuring and other items, were 81 cents, up from 79 cents in the same year-earlier period and in line with analyst estimates.

Sales revenue increased 3.2 per cent to $3.2 billion and included a 2.3 per cent increase in same-store sales.

It also booked an offsetting pre-tax gain on disposal of $13 million in respect of a sale-leaseback transaction involving some of its properties. The prior year’s third quarter had a $3-million sale-leaseback gain and no significant restructuring.

Overall, pharmacy sales accounted for 48 per cent of the company’s sales mix, down slightly from 48.7 per cent in the same quarter of last year as front store sales increased 4.6 per cent to $1.67 billion in the quarter.

During the quarter, front store sales were led by strong growth in cosmetics, over-the-counter medications and food and candy.

Shoppers said pharmacy sales were $1.54 billion in the quarter, an increase of 1.7 per cent compared with the same period last year.

That reflected strong growth in the number of prescriptions filled, combined with continued sales gains in the company’s MediSystem Technologies and Specialty Health Network businesses, partially offset by a further reduction in average prescription value as the number of generic prescriptions filled increases.

BMO analyst Peter Sklar said Shoppers’ results were slightly ahead of his expectations as same store sales growth improved more than thought.

“Pharmacy (same store sales) and script count growth benefited from the previously announced acquisition of the 19 retail pharmacies and three central fill pharmacies acquired from Paragon pharmacy,” Sklar noted.

Retail square footage at the end of the third quarter was up 3.9 per cent from a year ago.

It opened 10 new stores during the quarter, six of which were relocations, and closed two smaller stores.

Shares added three per cent or $1.34 to $42.46 in Tuesday trading on the Toronto Stock Exchange.