Wal-Mart, Your Friendly Drugstore

Wal-Mart Stores (WMT) wants to be your low-cost destination for not just food, clothing, and housewares, but also drugs and health care. In the past few months, Wal-Mart has announced it is working with several companies to process and pay their prescription claims. The company is aiming to increase electronic prescriptions at its stores by 400%, to 8 million by yearend. It is introducing walk-in clinics at its superstores to treat minor ailments and is expanding its $4 generic-drugs program. "What our company does best is exactly what the U.S. health-care system needs the most. It needs more affordability. It needs more accessibility. It needs to be more efficient," said H. Lee Scott, chief executive officer of Wal-Mart, in a speech earlier this year.

Sound familiar? It's an echo of Wal-Mart's initial steps into the food business 20 years ago. Today, groceries are Wal-Mart's biggest revenue generator, making up 41% of its annual sales. Along the way, Wal-Mart has dramatically reshaped the grocery store industry. Now it's making a bid to do the same in health care.

The low-cost strategy is paying huge dividends for the world's largest retailer as it heads into its annual shareholders' meeting on June 6. At a time when Americans are being weighed down by record-high prices (BusinessWeek.com, 4/14/08) on everything from gasoline to milk, flour, and eggs, Wal-Mart's new slogan, "Save Money, Live Better," is resonating more strongly than ever for millions of consumers who have consolidated their shopping into one weekly trip to one of the chain's massive stores. On Thursday, the company reported sales at stores open a year or more rose a higher-than-expected 3.9% in April, one of the strongest performances recorded by an American retailer. That's why Wal-Mart shares are trading near a six-year high, at 59. "It's a strategy to get people to come in for different aspects of their life, but all at lower costs," says David Abella, a Wal-Mart shareholder and portfolio manager at New York's Rochdale Investments, which has $2.3 billion in assets.

Hefty Profit Generator

Already, Wal-Mart's drug and health-care ventures provide big chunks of its sales and profits. The chain says that health and wellness products (including pharmacy sales) made up 9% of its overall $374.5 billion in revenues in the 12 months ended Jan. 31, 2008. Analysts say the profitability of the health-care lines was better than Wal-Mart's overall 23.5% gross margin last year.

The investment in health care could pay even bigger dividends in coming decades. Health-care costs are expected to continue spiraling upward in the U.S., especially for the estimated 80 million baby boomers, who were born between 1946 and 1964. According to the Census Bureau, 300 people in America turn 60 every hour, and health-care spending averages $3,262 for those aged 55 to 64. That expense typically climbs 20% per year for those over 65.

"People are worried because health-care costs are growing faster than the average American's income, and it's only going to get more intense as boomers retire at an increasing pace," says Len Nichols, health-care economist at The New America Foundation, a nonprofit public policy institute in Washington. Says Abella: "It is important to cement your health-care credentials as the leader of low-cost drugs at a time when baby boomers are getting older by the millions."

Unbeatable Prices

For two years now, Wal-Mart has been trying to do just that. It has shaken up the industry in the process. After it started offering a group of generic prescription drugs for $4 in September 2006, Target (TGT) and Costco Wholesale (COST) followed suit. Costco started offering $4 for a 30-day drug supply and then changed to $10 for a 100-day supply; now Wal-Mart has a similar offering.

Even at $4, generic drugs are not a loss leader at Wal-Mart. In its annual report, the company says that its gross margin increased in fiscal 2008 because of higher sales in fresh food and pharmacy. Rochdale's Abella says: "Wal-Mart might not be making the profits on $4 generics that drugstores were making, but generics have always had higher margins than branded drugs, and Wal-Mart is certainly not giving them away."

On May 5, Wal-Mart expanded its low-cost offering to cover women's medications to treat breast cancer, menopause, and hormone deficiency. For instance, alendronate, a generic version of the osteoporosis drug Fosamax, is being sold for $9 for a 30-day supply or $24 for a 90-day supply. That compares with $54 for a 30-day supply of the generic or $102 for the branded drug at pharmacy stores. The move should "help gain critical share across its female primary shoppers, and also drive traffic cross-shopping," wrote Adrianne Shapira, a retail analyst at Goldman Sachs (GS) who follows Wal-Mart, in a recent report.

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