Woolworths has long coveted a stake in the retail pharmacy industry but has never found the right entry point, until Wesfarmers put a big foot in the door at Australian Pharmaceutical Industries. WOW has gazumped WES’s already increased bid for API but this is unlikely to be the end point.
Both WOW and WES are playing down the intrusion into the Pharmacy Guild’s well cosseted territory. Each is espousing the supply chain efficiencies, data capabilities and digital sales growth opportunities rather than busting open the Guild’s iron grip on pharmacy medicine. The Guild itself has already hissed a warning to WOW threatening to scurry off to the Prime Minister’s office should any part of its lair be unpicked. The Pharmacists’ golden goose is the government’s Pharmaceutical Benefits Scheme which gives the Guild’s members, the pharmacists, a river of gold. Supermarkets are not allowed to sell pharmacy prescription products and the current Guild agreement is in place until 30 June 2025.
But arguably it is not the back of the shop where the pharmacists rule that is the main interest for WOW (or WES for that matter). It is the retail element, the front of the shop that contains the business opportunity. Both WOW and WES see sales productivity in the Priceline stores as ripe for improvement where this metric is thought to be half that of Chemist Warehouse.
API itself has a nugget tucked away inside the business. Its loyalty program Sister Club, with 7.5 million members, is sitting there like a truffle for WOW and WES to sniff out. WOW has its big Everyday Rewards loyalty club with 13.1 million members (June 2021) while Wesfarmers has its joint venture Flybuys loyalty program with Coles which has 8.6 million members. The Sister Club itself could be worth over $400 million within a total enterprise value of $962 million based on WOW’s bid. Extracting the Sister Club from the total EV implies the rest of the API business is valued at approximately 6.5x EBIT.
Investment view
The acquisition of API would be a launching point for WOW to develop a consumer health franchise. This is the same logic for WES which has talked about creating a Health division within its portfolio. The fight for API is therefore not yet over.
We note that WOW established a joint venture with a small pharmacy group Super Pharmacy in the last year. API would therefore be a building block in its ecosystem with synergies in its digital and marketing services.
A potential stumbling block for WOW is the 19.3% stake already acquired by WES which also has a right to match a higher offer once it becomes a binding proposal, which WOW’s current proposal is not.
Consensus forecasts for WOW place the FY22f PE ratio at 29x which we think is high given a slowing sales environment. We maintain our Hold recommendation on WOW.
