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Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Ladies and gentlemen, thank you for standing by. And welcome to the Walgreens Boots Alliance, Inc First Quarter 2020 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. [indiscernible].
I would now like to hand the conference over to your speaker today Gerald Gradwell, Senior Vice President of Special Projects and Investor Relations. Please go ahead.
Good morning, ladies and gentlemen, and welcome to our first quarter earnings call. I am here today with Stefano Pessina, our Executive Vice Chairman and Chief Executive Officer of Walgreens Boots Alliance; James Kehoe, our Global Chief Financial Officer and Alex Gourlay Co-Chief Operating Officer of Walgreens Boots Alliance and President of Walgreens.
Before I hand you over to Stefano to make some opening comments, I will, as usual, take you through the legal safe harbor and cautionary declarations. Certain statements and projections of future results made in this presentation constitute forward-looking statements that are based on our current market, competitive, and regulatory expectations and are subject to risks and uncertainties that could cause actual results to vary materially. Except to the extent required by the law, we undertake no obligation to update publicly any forward-looking statement after this presentation, whether as a result of new information, future events, changes in assumptions or otherwise.
Please see our latest Form 10-K for a discussion of risk factors as they relate to forward-looking statements. In today's presentation, we will use certain non-GAAP financial measures, we refer you to the appendix in the presentation materials available on our Investor Relations website, for reconciliations to the most directly comparable GAAP financial measures and related information. You will find a link to the webcast on our Investor Relations website at investor.walgreensbootsalliance.com. After the call this presentation and webcast will be archived on the website for 12 months.
I will now hand you over to Stefano.
Thank you, Gerald and hello, everyone. As you will see from our figures, it has been a slow start to the financial year. With a competitive US pharmacy environment and soft trading conditions in the UK. That said, as you will hear, there are a number of items affecting the year-on-year comparisons. And given the initiatives that we have underway, we are maintaining our full year guidance.
In the quarter, we continued to make progress against all four of our core strategic priorities. We are making progress in moving our data resources to a new and more flexible cloud-based infrastructure with a significant benefits that brings. We have also made a good progress with the development of new services to build on these new infrastructure, to announce our customer experiences, make our teams more efficient and effective and open a new opportunities for our businesses.
Clearly, this work on the digitalization of our company and thus closely tie in with our work to modernize our retail offering and the shape and structure of our retail footprint. At the same time we are working with partners to redefine the delivery of health care in the community and the important role of pharmacy in the immediate and longer-term future.
And all of –this, is of course, supported and fueled by our Transformational Cost manager program, which has made substantive progress during the quarter. Finally, we have also continued to make progress on a number of significant partnership both established a new to announced our and efficiency and towards the value growth in our businesses. In the quarter, we entered into a procurement joint venture with Kroger, building on the already strong relationship that has been formed between Kroger and Walgreens.
And we announced a joint venture with McKesson to bring together our two businesses in Germany, improving our reach and scale with a focus on enhancing the efficiency and performance of our combined wholesale operation, in the significant German pharmaceutical wholesale market. I will come back to make few comments on the future at the end of our presentation. Now, I will ask James and Alex to take us through the results in a little more detail. James?
Thank you, Stefano and good morning. Adjusted EPS was $1.37, 5.7% lower than prior year on a constant currency basis. The year-on-year comparison was impacted by around 5 percentage points of adverse items including the year-on-year bonus impact. In Retail Pharmacy USA, strong cost management and improved retail comp sales were offset by lower gross margin. Retail Pharmacy International continued to be negatively impacted by a challenging U.K market and we saw continued strong performance from Pharmaceutical wholesale.
Our Transformational Cost Management Program is very much on track. And we expect to achieve annual cost savings in excess of $1.8 billion by 2022. Cash generation was very strong in the quarter with free cash flow of $674 million, $468 million better than prior year. And finally, we are maintaining our guidance for fiscal year '20 of flat adjusted earnings per share on a constant currency basis with a range of plus or minus 3%.
Looking forward, we see improved core business trends with however some noise in the second quarter as we cycle through the timing of reimbursement payments and year-on-year bonus impacts. In total, these result in an expected EPS headwind of around 13% but both of these items were budgeted in fiscal year 20 and have no impact on full-year guidance.
Let's now look in more detail on the results. First quarter sales were up 6% including a currency headwind of 0.7% on a constant currency basis, sales were up 2.3%. Adjusted operating income declined 15.4% on a constant currency basis, reflecting lower gross margin in the US and a difficult UK market. Adjusted EPS was $1.37 a constant currency decline of 5.7%. Our share repurchase program contributed 4 percentage points of growth and an additional 5.7 percentage points came from a favorable tax rate as we benefited from a number of discrete items.
The result included adverse items of over 5 percentage points, including the year on year bonus impact, mark-to-market adjustments and lapping prior year supplier funding. GAAP EPS declined 19.8% to $0.95 and also reflected costs relating to the Rite Aid transaction and the implementation of the Transformational Cost Management Program. Now let's move to Retail Pharmacy USA. sales increased 1.6% in the quarter with 2.9% growth in pharmacy, partially offset by lower retail sales.
Note that the sales growth includes the negative impact of 50 basis points due to our store optimization program. Adjusted gross profit declined 4.9% due to lower pharmacy and retail gross profit, adjusted SG&A spend decreased 1.6% in the quarter and was 17.6% of sales, an improvement of 0.6 percentage points versus prior year.
The decline in SG&A, clearly shows our strong execution against our Transformational Cost Management Program with savings, more than offsetting incremental investments the impact of inflation and the year-on-year bonus impact. Adjusted operating income declined 16.2% of the SG&A savings were not enough to offset the decline in gross profit and the adverse items I mentioned earlier. In total these adverse items accounted for over 6 percentage points of the decline in operating income.
Now let's look in more detail at pharmacy. Total pharmacy sales increased 2.9% versus prior year, reflecting continued brand inflation and script volume growth. Central specialty sales continue to grow nicely up 9.3% versus prior year. Comp pharmacy sales were up 2.5% and comp scripts grew 2.8%. While this was weaker than expected, we have seen improved growth in recent weeks. Market share for the quarter was 20.9%, down 55 basis points versus prior year including the impact from our store optimization program.
adjusted gross profit decreased mid single-digit, as the impact of procurement savings and script growth was more than offset by reimbursement pressure.
Turning next to our US retail business. Total retail sales declined 2.2% in the quarter, impacted by store optimization. Comp retail sales declined 0.5% and continued to show an improving trend. Excluding tobacco and e-cigarettes, comp sales were up 0.8%. As you know we are exiting the sale of e-cigarettes. While this did not have a significant impact on comps this quarter, it will have a bigger impact from the next quarter onwards. And we continue to anticipate a full year EPS impact of around $0.06 .We saw solid comp growth in our core categories with health and wellness up 3.3% and beauty up 2.5%.
We estimate a tailwind of around 80 basis points from cough, cold, flu. Retail adjusted gross profit declined low single digits due to lower sales, including the impact of store optimization programs, higher shrink and the timing of prior year supplier funding. Adjusted gross margin declined slightly however, excluding the higher shrink and supplier funding timing underlying category margins were in line with prior year.
Turning next to Retail Pharmacy International and as usual, [indiscernible] constant currency numbers. Sales decreased 2.7% mainly due to the UK and Chile. Boots UK comp pharmacy sales increased 0.9% in the quarter reflecting relatively higher NHS reimbursement levels and increased sales from services partly offset by lower script volume.
Boots UK comp retail sales declined 2.9%, as the UK High Street continued to be very challenging. However, overall we held market share adjusted operating income was down 39.1% mainly due to lower UK retail sales volume and margin. The results include an adverse impact of 13 percentage points from the year-on-year bonus impact and higher technology investments.
Turning now to the Pharmaceutical Wholesale division, which I'll also discuss in constant currency. The Pharmaceutical Wholesale division delivered another strong quarter with sales up 8.3% led by emerging markets and the UK. The change in the customer contract, which I've mentioned before, help our UK performance contributing 1.4% to the overall sales growth, we have now lapped the impact of this contract change.
Adjusted operating income increased 4.9% reflecting strong revenue performance on a higher contribution from Amerisource Bergen. These strategic joint venture with McKesson aims to drive sustainable profitable growth in the largest pharmaceutical drug market in Europe by leveraging scale and improving efficiency. Mid-term we expect the JV to be EPS accretive and to accelerate our Pharmaceutical Wholesale profit growth.
Turning next to cash flow. Operating cash flow was $1.1 billion, up $601 million versus prior year. Free cash flow was strong at $674 million, up $684 million on prior year. Our key working capital initiatives are on track. We are removing excess inventory from the system, and we have started to extend payment terms to industry leading levels. Ad we have a strong pipeline of initiatives to fuel our cash flow generation over a multiyear period.
Let's turn now to our Transformational Cost Management Program. In October, we raised our annual cost savings target to in excess of $1.8 billion by fiscal 2022. We now have a very robust pipeline and our savings initiatives are gaining momentum, this gives us a much higher level of confidence that we can exceed $1.8 billion target. Importantly, these savings will allow us to fund the investments needed to create new and innovative business models.
Let me now give you some detail on our activities in the quarter. On smart spend, we are accelerating our energy management efficiency program. And we see opportunities to ramp up our procurement activities in goods, not for resale. The energy management program is interesting.
U LED lighting saves money is environmentally friendly and improves the store experience for consumers. This is a perfect example of save to invest to grow. On smart organization, we're undertaken an end-to-end process review in Boots UK covering all major business processes with the aim of transforming how we operate, ultimately leading to a lean and effective operating model.
We are now actively planning the implementation of global business services and we have implemented the second wave of headquarter cost reductions in Mexico, Chile and Thailand. On divisional optimization we have completed 114 of the 200 Walgreens store closures and 28 of the 200 Boots UK closures. We continue to test new store formats in the US and we're now operating 23 small stores with encouraging results.
On IT, we have started implementation of a new operating model and our vendor optimization work is progressing well. For example, we recently selected Tata Consulting Services as our new partner to accelerate the work on our critical pharmacy operating system. On digitalization we have prioritized investments in mass personalization and reinventing the pharmacy prescription journey.
Now, I'll hand over to Alex.
Thank you, James. I'll now update you in some of the actions we've taken in the US during the quarter, starting with a retail offering. Our strategic partnership with Kroger is progressing well. The initial Kroger Express pilots in Northern Kentucky has been running for just over one year and the pilot in Knoxville, Tennessee for 5 months. We've seen very positive results so far, with a strong sales risk.
Building on the success of these pilots, we formed the group procurement office retail procurement aligns with Kroger in December to purchase both of our private label goods. We expect this joint venture to deliver cost savings encouraged sourcing innovation and generate efficiencies across the supply chain. Our strategy of focusing on the higher margin health and wellness and beauty countries is living benefits on both delivered solid performances in the quarter. Our flagship No7 beauty brand performed well, with sales up in the mid teens reflecting nationwide advertising campaign and our new e-commerce site. And we have introduced an enhanced skincare offering at over 900 stores, which we expect to drive future performance.
Moving on to health care. We have opened the second of 5 villagemd primary care locations in Houston. Our wellness partnership with Jenny Craig is progressing well and we are on track to open approximately 100 locations by the end of January. We're also in the process of converting our optical pilots to the four I brand, which offers improve insurance coverage and stronger consumer brands.
In specialty, I'm delighted to see that all 300 community-based specialty pharmacies, I'll receive Iraq accreditation. And we continue to believe that our strong community-based presence along our central fill capability provides the best access for these four medications to our patients on the marketplace. In partnership with United Healthcare we continue to create new opportunities for growth in Medicare Advantage
We are very pleased with customer adoption of the new core branded Medicare advantage product, we started selling from October 15 2019. And finally, we are also opening 14 United Health care patient centers in Santos, designed to help our customers navigate the insurance and health care needs within walking stores.
Turning next to digitalization. Our Fine Care platform has to health care service providers spanning over 46 services. We continue to develop a patient medication adherence programs to deliver better clinical outcomes. Our Save a Trip refills program now has three million patients signed up an increase of over 25% since last quarter. Our consumers continue to demand the convenient omni-channel retail shopping experience.
I'm pleased to say we had record breaking sales on walgreens.com on the Black Friday weekend, up over 45% versus the prior year. And were particularly strong performance in retail products. Overall our omnichannel business continues to grow.
Our Walgreens up has now been downloaded 60 million times up 12% since last year. Around 33% of Walgreens retail refill scripts eligible for digital refill we're entered via digital channels in the quarter, up almost 18% since last year. And we have increased our Balance Rewards members to $889.9 million.
Finally, Walgreens digitally initially sales reached over $3.7 billion in the quarter, up around 9% year-over-year. Make a look on initiatives we've undertaken and Retail Pharmacy International, starting with the retail. In Boots UK, as you know we've introduced our beauty reinvention program just 26 of our flagship beauty brand in the second half of last year. I'm pleased to report that we've seen an improved performance in these stores in line with our expectations.
Building on this, we rebalanced the retail space in 200 of our largest stores and have introduced 20 new beauty brands. Since the quarter end, we have signed an exclusive UK franchise agreement with Mothercare, a British Retail online brand specializing in products from others babies and children. We will be selling Mothercare branded goods across the UK and online.
Moving on to health care. Our purpose-built pharmacy operating system has been rolled out to over 1400 Boots UK stores, following our pharmacists to provide a greater level of customer service even more efficiency and over time, a wider range of new pharmacy offerings. And we continue to develop new healthcare services with diagnostics where our pharmacists know have the ability to write prescriptions for certain conditions.
I mentioned last quarter that we are developing new initiatives in digital health care, with plans for expanding pharmacy services to improve the customer journey and broaden access to health care. We launched our online pharmacy in May 2019, which has made solid progress in the markets.
For the good progress on digitalization our online business boots.com delivered strong growth with sales up 12% versus prior year in the quarter. We also saw a record-breaking Black Friday weekend with resulting online sales up around 25% and finally, we have agreed an exclusive partnership to offer omnichannel photo and gifting services in the UK and Ireland.
I'll now hand you back to Stefano for his closing comments.
Thank you, Alex. As you have heard this year as open with a number of challenges. The mainly changes that are impacting the global health care sector how generating some difficult conditions for our businesses. It said change always brings opportunity. We must act to meet the challenges and ensure we make the most of the opportunities we see. Saving these opportunities and mindful of the challenges side, we are maintaining our full year guidance for the year.
We continuously review our Group to ensure we have the right mix of businesses, to maximize our performance in a dynamic sector. Pursuing our strategic priorities is having a real impact in driving our businesses. The changes in our markets are -- some of the positive impacts we are having. But these will not be the case forever.
I have said before and I will say again, I strongly believe in an expanded role for pharmacy and in our company's ability to play a significant part in shaping how healthcare is delivered in the community going forward. I believe these as much today as I ever have. I believe we have two financial strength as a business. As we have demonstrated this quarter, we have extraordinary ability to generate strong and sustainable cash flow.
And we have many opportunities to deploy this cash flow to create real value. I remain convinced that we have in our company and to our partnership and extraordinary foundation on which to build. The walk that we are doing today is creating a strong and flexible engine of our growth in our businesses for many years to come.
Thank you. Now we will take your questions.
[Operator instructions] Your first question comes from the line of Robert Jones from Goldman Sachs. Your line is open.
Great, thanks. Thanks for taking the question. I know there's a lot of moving pieces and it's only the first quarter, but if I just take a step back your clear EPS was down around 6% in the quarter below the full fiscal year guidance, it sounds like, James, if I'm hearing you correctly next quarter given some of the moving pieces. It could see an even steeper decline in EPS.
I guess if we think about the back half, could you maybe just give us the building blocks the things that you guys have visibility into that gives you confidence that the back half can get you into that flat plus or minus 3% EPS for the year.
Yeah, and I expect that question, obviously. Let me give just give you a little bit of context on the first quarter. However, first, I think the only real surprise we had in the first quarter was on the script volume, it did come in weaker than we expected. We were thinking over a number of around 4% and we come in at 2 point base, that's the piece -- And I want to be clear, our internal budget was 137 and we came in our budget. What we had was a favorability on tax, offsetting script growth in Q1. So that was the one thing we were disappointed on.
We had a lot of stuff, we're very happy about, so free cash flow was off the charts, we beat our internal budget by hundreds of millions, largely driven by programs were implementing in the US. As Stefano said in these comments the transformational cost management program and that's key to the answer to your question is, our classified right now is well ahead of frac, particularly due to actions in the US and the U.K. Another items I'd highlight that shouldn't be lost on you, we finally we have mailed one of the first steps in the Kroger relationship. We think it's extremely positive that we have started up a GPO. And I think it will lead to many good things in the future.
And then finally a strategic deal in a problematic German wholesale market, which we think will drive tremendous value longer term. So we think there was a lot of good things that happened and script growth was the one that was more challenging. Let me give you a perspective looking forward is, and actually we're a little bit surprised as well, we're seeing quite a strong momentum in the current-month of December.
So we believe when we call out five percentage point of points of items in the first quarter, we're probably under of holding that. So we're clear shifts between, call at the Thanksgiving period, Christmas periods and I don't want to give the precise number, but our script growth is in solid mid single-digit growth in the month of December. So we're clearly feeling that we're not really regarding why the shifts are happening that well.
We know cough, cold flu is driving some of the buoyancy in December. So we are seeing signals that what we are counting on to hit our full year guidance, we do need or script growth to be in the 3.5% to 4% kind of maybe 4.5% depending on the quarter. But right now in December, we're seeing numbers in excess of that. So script growth is the key one, the other Tier 1 is that will drive increasing performance as we exit the year.
Obviously, as you take out costs, the cost take-out is over the course of the year. So the savings roughly in the first quarter are around 15%. So of the total goal of, well, we haven't given the number, a large number, were less than 15% in Q1. As we exit the year will be up double the run rate of savings. So overheads will become a very significant much more significant driver in the second half.
And I do want to point out for that, for a company of our size with the amount of overheads we have the total overheads were down 1.6% in the quarter. And the contracts, and I think it's important to have the context, we did say that the combination of inflation and volume impacts is about 400 million, you have the bonus year-on-year that's in the region of 354 million and we have incremental investments of 100 million to 150 million. So it will give you some indication of the size of the cost management initiatives.
And I think we'll come back next quarter would probably more visibility on the potential further opportunity on the cost program, but I just finished answering your question, I think if you were to do your model again for the full year. I would -- we will probably have a slight favorability on taxes. So called up somewhat 0.6%, 0.7% on the full year and we will have more coming from overheads and probably slightly less coming from gross profit because we had a miss in the first quarter on scripts. So that's why we feel it's basically the overheads and some tax opportunities that we feel we can offset the call of the script under delivery in Q1.
That's tremendously helpful. And I guess just one other probably anticipated question again just around the prime relationship in the wake of the prime Express Cigna announcement. Just wanted to get any update on how you guys are viewing the prime relationship and the impact of the Alliance or ex JV just as we think about how that relationship played out for you this past year relative to your expectations for how would contribute in 2020 would be would be helpful. Thank you.
Hi, Bob. It's Alex here. Yes. We have re-try to the prime, in a direct relationship. Prime is now working with Express Scripts as a PBM and working with us in a direct relationship, so we anticipate to hold our market share with Prime and potentially grow was a prime model will be more competitive in marketplace. Our relationship with Prime continues to be a very strong one and we continue to walk you very well with independent Blues so we are happy with the situation. In terms of the impact obviously we've readjusted the margin of debts but it really was in forecast in budget. So we had expected this impact and then plan for it,
On the AllianceRx, AllianceRx is doing okay at the moment. But again, we have a great relationship with Prime. We are speaking to them at the, how do we adopt to an ever-changing specialty marketplace, which is becoming even more important for both of us. We expect to have conversations next year along these lines to improve that model further. So all is good from our point of view and we wish primary success with the year new, the new model and the network, we feel very confident that we will benefit from that relationship in the future.
Your next question comes from the line of c from Nephron Research. Your line is open.
Thank you and thanks for the commentary on the cadence with respect to volume and cost. Maybe to hit on one other item reimbursement and the impact on 1120. I know you gave us a 13% number, I think it was reimbursement and bonus, but can you provide a little bit more context on what the outlook is, as we move from Q1 into Q2 on 1120?
Yes, the 13% reference was to Q2 and we're specifically highlighting two things in the quarter. And I would say it's like 7% due to reimbursement timing and the other is 6% is due to bonus year-on-year. And the reason we called out the Q2 reimbursement is, it really is a timing item, it's a true-up of prior year contracts that occurs typically in the April, May, June timeline of the year. And, as it happened in the prior year there was no true up.
So it's not really a reimbursement impact year-on-year in terms of increase in contract prices is a contractual true-up of the contract for prior year and it's quite a large number because of impact 7 percentage points. We didn't actually call out anything on Q1.
What we said about Q1 is reimbursement was actually broadly in line with the plans we put together, because if you recall, when we gave guidance we said at the time that -- I think 58% or 60% of all of our contracts were already defined when we gave guidance, so we have fairly decent line of sight to the full year, reimbursement. And we came within 20 million of the reimbursement estimate for the first quarter. So we were actually quite pleased with that because it's quite difficult to forecast reimbursement.
And you know we have looked back on some of our prior guidance on the quarters and the reason for giving something on Q2 just highlight this exceptional reimbursement of timing true up. Right now as we sit, we have no reason to call any different outlook on reimbursement for the full year, we should presume that means plus or minus 50 million.
So it's, we were pleasantly surprised with the Q1 on that site. And I reiterate our issue on pharmacy in Q1. Nothing to do with procurement, nothing to do with reimbursement, they were actually net probably slightly positive, it was probably it was all script volume. So it was just lighter than we would have planned it to be.
That's really helpful. And reimbursement in the UK, it sounds like NHS funding did improve but we didn't see it in the revenue line was this simply the new contract or have you seen any makeover for the debt in the lack of payment last year,
So again, this is Alex. Hi, it's Alex here. One is, as you say there has been a stabilization of payment, which is in the marketplace can be seen on any site. And secondly, we have taken some actions to reduce loss making services that we have in the UK on to make them more profitable.
As a result of that we've lost some volume, not as much volume as we had expected to be honest with some volume. And we're quite pleased that with the retention of our customers with these actions and that's what's caused a slight for the decrease in terms of our revenue in the UK -- not reimbursement is actions we've taken to reduce loss making services that we were offering.
Thank you.
Your next question comes from the line of Elizabeth Anderson from Evercore. Your line is open.
Hi, good morning guys. A couple of times you mentioned or should have alluded to potentially a little bit of a change in competitive environment in the US pharmacy or perhaps some pressure on or versus your expectations in the quarter in terms of script growth. Could you comment more broadly on sort of what you're seeing there and sort of your thoughts on how that's progressing.
Yeah, I think as the consolidation in the market has really accelerated both vertically and horizontally. And as for example the Prime Express deal is a good example of this, PBMs are working more closely together. Clearly putting more pressure on the marketplace for better pricing and actually what we alluding to. So we are working hard as James has said, as we always have done to mitigate that pressure through a cost programs and through driving volume.
As James is going to say very clearly, we were disappointed with the volume growth in Q1. Part of that was timing as James has said, and part of that is because the fact that we lost them access to some particular some Medicaid networks during the summer, that is rolling into this year.
And, as we spoke to -- I think it was the last quarter, we're working investigating obviously with advance Rx and -- the opportunity for us to become more efficient together and offer a new model in the Medicaid business, we recognize that we are under share their on behalf to operate differently in that marketplace. And Medicare, we continue to do very well with UnitedHealthcare, we're really pleased with the relationship on the new MA plan as we spoke to in the prepared comments, is done has done well and we expect that will come through in the changes in January 1,
Obviously we're doing less well with the other a strong performer, which is Aetna insurance. We have, we've done really well and we are doing less well with them for maybe obvious reasons, but in the whole, we feel we are going to be there or thereabouts in Medicare, then in commercial already said in a reply previously that we are very pleased to have renewed the contract with Prime, which again is a very important book of business for us in the commercial network.
So I mean that's a picture from my point of view, and I don't know if I help the question. Elizabeth, but that's how we see it and all underpins the 3.5% to 4% volume growth that we expect to see in the full year.
Okay, perfect. That's very helpful. Thank you.
Your next question comes from the line of Lisa Gill from JPMorgan. Your line is open.
Thanks very much. Good morning. I wanted to start with just some thoughts around branded inflation as well as generic procurement in the current market As we think about the gross margins and how this will impacted. I'm just wondering, James. First, can you just talk about what's in your current expectation and guidance.
What we saw. I'll tell you what we've seen in Q1 we saw branded inflation of around 4% and we, most of the market. Read seem to be the inflation and this is on a constant mix basis, so like for like SKUs deflation of around 4% we would say that internally generics and generics on generics. And maybe I'll ask Alex to weigh in, and then two is we would be outperforming versus that 4% would probably be a mid-to-higher single digit.
And we generally are projecting that kind of number going forward. Somewhere in the mid to high single-digit deflation mix adjustment which is it's probably quarters will change the versus market, but generally that's what we're seeing in the market and we're delivering slightly better in terms of cost reduction in the P&L.
I don't know you want do you have a few as answer we it we're seeing and we continue to if you very good about our global operation and we're delivering just slightly beyond Mark RVs reductions in COGS. Cost of goods so you thought who will see.
Yeah, yeah.
And then Alex, you talked about a number of health-care initiatives and updates to that you didn't touch on today would be LabCorp, and Humana, one on the LabCorp side, can you just talk about where you are today, are you on track on the Humana side, any plans to expand to talk about United on the Medicare Advantage side.
But I'm curious what you're doing with Humana and then just more broadly speaking, the strategic priority for expanding the role of pharmacy, as you know, I'm a big believer in that as well.
But with the reimbursement pressure do you ever see that subsiding in any way where you can actually get ahead of that where you can start to change the paradigm and I know I've asked us for multiple years. But do you finally think that you can start to see that on not the horizon as you start to have bigger and bigger relationships like north of 100 million lives.
Now in the combination of Prime and Express, you think about large relationships like United.
Yes So I think maybe start with the Humana questions. So we've opened up a third partners in primary care. It looks very good and is operating really well on the relationship between the pharma and -- doctors is really close.
So we continue to feel really good about that very small, but important test joint venture and of course, we've opened up at two also with the clinical villageMD EUs I'm sure you know, don't Houston will be 5 in total by the end at the end of February.
And again, we are very, very pleased with how that's operating already, we've taken a small stake and that company villageMD as well, which we're pleased to do and we see that partnership of the doctor and the farmers has been fundamental to the future of community health care delivery going forward in court.
Core to our model on the lending, lots of who we can do two things take cost out the system together and get customers to understand the two their medications better unchanged lifestyles. And so it's really interesting walk on it points to maybe your last question. So that's on the Humana on LabCorp bang on track in terms of number of service centers opened. I think we'll have well over 100 in the growing by the end of this quarter.
I think that's really bang on track and under-performing well. We are seeing. You know NPS scores on the usage of the centers, all in, or above our expectations, so we, very pleased with our program and we expect of 600 and maybe more, we don't know yet in the ground within the four years as we promised, and the pharmacist.
We are working really hard to get our new system. Then as James spoke to in prepared remarks, we're going to be accelerating that system from the current pace that will be fundamental to be in the CLO the date will be in the cloud, will be fundamental to taking the called out and freeing up our pharmacists to really drive you that in future.
We're seeing increased payments from certain insurers and PBMs particularly in Medicare D who we really like working with United because they are, they are stretching to this in terms of getting the payment. But the very clear on the goalposts that we have to hit to get the payment.
And we've been successful in achieving that. I do believe other insurance companies will follow -- their leads on the government eventually will also make sure that we have clear KPIs going forward as well.
So, yes, it's a longer play for sure, but we are really committed to and we're making more progress appears right now in our numbers on. We continue to keep on pushing this is fundamental to pharmacy and fundamental we believe to a more efficient healthcare system in the US.
And then just, just. I understand that none of that is in your expectation for 2020 I heard you say longer term a couple of times in this conversation, so should we anticipate that this to potentially impact fiscal 2021 or 2022. How do we just think about it from a timing perspective.
Yes. We already earning some money back, as you know, the famous direct or indirect basis the bit you'll know well. So we are any more money back than we did previously unmined money available to us as growing. I don't. Our ability to get money grows as we get and of course, we're also deploying pharmacy specific of pharmacies.
Okay. Pharmacists, I think we have about 150 are specifically working to achieve these performance outcomes. So I think this will start to affect 21 and 22.
It's already given us some relief in 20 as well in there is improved money in our, in our forecast for performance networks
Okay, great, thank you for the comments.
Your next question comes from the line of [indiscernible] from Morningstar. Your line is open.
Thank you for taking the question. The, so the background. You've given on a lot of initiatives have been great, perhaps maybe specialties become such a big component of your business. I mean is that, is that mix also impacting the margins as well.
Yes. We call that out in the quarter it impact of by about 50 basis points because it's growing at high single-digit versus the pharmacy scripts 2.8%, so it's driving adverse mix of 50 basis points.
And I guess that makes sense. I mean, does the, the initiatives that you're kind of putting in place help expand those margins are or also provide kind of that long-term wellness and part of the Healthcare transformation.
Yes, absolutely, I mean, we strongly believe in having a community presence and as you know, we have 2 models, we have one, which of course to doctors who are practicing and specialty for example in oncology and then we have pharmacies inside of our hospitals and sort of healthcare systems.
We have 300 plus of these and we've patient for the malls. So every single pharmacy that we run in the community, which is very unusual. I believe with the foster achieve this has got that accreditation I means of a more attractive to the manufacturers because know that we will take full care of the patient, and more and more patients are living longer with diseases and communities.
So we believe the local model it will become important to the future of healthcare delivery and will always be a central fill model, I'm sure, but we believe the local model will become more and more important.
Also, we announced the [indiscernible] Shields -- as a variance. I think platform that's working with health care systems and we have a lot of relationships with healthcare systems. As you know, to make sure of ice patients, hospitals they maintain themselves on the drugs being dispense primarily by the hospital pharmacy.
So again, we are investing both in technology Shields, and also an offline as well in terms of data and tracking customers and look community pharmacies to make sure pharmacist can actually take care of these customers as it this more often a home and we're also of course working closely with Prime.
As we said already, to make sure that we have a really efficient and effective central model, and most importantly of all we have outstanding relationships with the manufacturers really driven both through our relationship with AmerisourceBergen and also the walk are now it goes with our team, at global level to make sure that we have the very best relationships.
So while these manufacturers are bringing these new and unique products to the markets and we feel as a global partner and we can apply our capabilities for them in the US market through our relationship.
Your next question comes from the line of Eric Coldwell from Baird. Your line is open.
Thank you very much. I know it's difficult to parse this out with the store closings in the UK as well as the shift to more services from volume perhaps but could you give us a clearer sense on the impact of the NHS reimbursement scheme change either quarter-over-quarter or year-over-year and then how did that really stack up compared to your expectations.
It sounds, okay but I'd like to get a little more detail on that in terms of not only the quarter-over-quarter, but also how that progresses through the next few quarters. Thank you.
Sure. Yeah, I know it's Alex here. No, it was exactly as we expected. So the quarter pharmacy both in volume, as I said already, we slightly below on the market in terms of underlying business, but we gave up some scripts because of some unprofitable services.
In terms of margin, exactly as we had expected on this tracking to as we expect, it's relatively easy to track this because the resigned the five year contract with the industry, through what's called the PSNC, which represents all pharmacies in the UK is a one contract. So we can track quite carefully. It does vary sometimes from quarter to quarter, but it's true up in a way which is transparent.
So we feel very confident that we've got a good line of sight to this. We feel very confident that we are working operationally very well in the UK and we have additional piece of walk there, which is called pharmacy in the future and -- you really is to transform the operating model for pharmacy in the UK. This will take some time, of course.
We've already mark site investment, we are investing strongly a new farm system, we've rolled out 1400 which is well over half of the state, and -- present all the home countries including Scotland more recently. So again we are feeling pretty good about the visibility, we're not feeling as good about the profitability of pharmacy, we believe that needs to improve further, so that we can reinvest back in community pharmacy properly in the years ahead. But we are very committed to getting that operating model understood unchanged over time.
Yeah, if you want to characterize the euro of prior year, it was a tough year for pharmacy or there were a lot of one-time impacts coming from NHS fundind, and will be a general this year recovery from that. We were surprising, we were within $500,000 of the gross profit targets for pharmacy in the UK, so it was buying on target. We are looking at a fairly sizable improvement in gross profit in the business this year.
So as Alex mentioned that earlier in these columns, we have some marginal profitability business on the sidelines and we're aggressively driving the improvement of those. So don't be surprised if you see script volumes and market share going down slightly. We're addressing the profitability of sub categories that we don't think are strategic to the company and we definitely don't want to be a marginal profitability positions.
So, a bit of a shift in the orientation in the business, slightly more to profitability. So it just as your modeling that out don't get fixated by script declines because the core business is actually quite solid, and solid in the quarter.
Yeah. Got it. Thank you very much.
And just one point on the U.K though as we go through it. We did have a rough quarter in retail and it really does come down to the market and our share of the whole share overall, I'm quite interestingly though we've seen in the last couple of weeks and maybe a little bit important as you think through your modeling.
We had a rough quarter not 40% decline now, there was a lot of one-time items in there probably half of that was one time adverse items just generally but as you think through this we saw a very, very strong Christmas period, there are huge phasing on a of our primary markets, the whole December month started out extremely slow the second last week of the month was extremely strong with high-single digit revenue growth.
And the last year, the last week of the year, we again have mid to high single-digit growth across all key categories and we're still getting bug December performance is quite a bit more positive then the quarter we just came out of. The double surprise was it was achieved with higher margins than the prior year.
So we're rebalancing the commercial approach in the UK and we're not chasing volume at any cost and surprisingly -- we're seeing better volumes and we're seeing better margins. Now it's only two weeks, so it's too early to child success, but we've seen a better performance across December plus the entire, the main two markets are actually both businesses have done quite well in the Christmas period, very well.
Your next question comes from the line of Kevin Caliendo from UBS. Your line is open.
Hi, thanks for taking my call. You mentioned you had 60% of your PBM contract set when you gave guidance and now you've renewed Prime. What remains outstanding and how much variance is there really at this point. Could there be an reimbursement as we look out over the rest of the year.
Hi, Kevin. It's Alex here. Firstly I mean there'll be some small networks which can change midyear for sure. But the vast majority this is contracted, the vast majority -- I can't give a precise number, but I've always give you an estimate will over 90 because I'll go back the consolidation market is very clear. And yes, so as where we are. But, so we feel we have good -- in this fiscal year on again will start renegotiating the majority of the -- contracts as we move through the summer months, but I'll before starting January 1st 2021.
And the renewal Prime that takes you through, is it more than a one-year contract, meaning like the Express relationship won't have any impact on that at all going forward?
As criteria, I mean, we don't disclose the length of the contracts, but this is a multi-year multi-year deal typical of a longish commercial contract.
Got it. And one last one, have you guys looked at the OECD proposals around multinational corporation tax rules, there obviously still just proposals, but wondering if they were implemented in any way impact Walgreens are -- or anything like that?
We have a -- I would say quite expert tax group under extremely active there all over this, I think you have to wait till dust settles on these things, but we would obviously realigned the corporate structure according to new legislation as it comes along. We think that we better then a -- it's in the right location, it delivers attractive tax positions, but it's all vetted and approved by all jurisdictions globally and it's in line with current policy.
As policies change globally will adapt for the policies, but we have an attractive tax rate compared to our peer set by quite a number of percentage points, we'll will try and maintain that as much as possible, but you can be sure the team is all over this.
Right. Thanks so much. That's really helpful.
Our last question comes from Michael Cherny from Bank of America. Your line is open.
Thanks for squeezing me in here. So I want to tie back I guess a big picture question, at the beginning, you talked about the broader strategy you're taking, I know you mentioned the role of pharmacy going forward. You've highlighted a number of the various different partnerships. I guess as you think about the next call -- rest of this fiscal year two, three years.
What are some of the checkpoint you're looking for relative to the partnership model relative to the strategy, relative to the EBIT contribution from all of these two essentially declare success or if some of them aren’t, going to kind of cut bait.
And how does that play into the broader thought process around the organization and the role and where you sit in the market on a go-forward basis given as well but you're also going through a pretty broad restructuring about the cost base and the store footprint.
Thanks, Michael. Yeah. So I think if we start with our key priorities and they know the start with the reimaging of the drug store and the renewed offerings…
we’re probably more advanced with the Kroger relationship and the reason why that's quite important is because it allows us to do two things, allows us to walk with. Then on the convenience model, which is really important to drive footfall into our physical stores and also really important from a consumer point of view, and the redefinition of convenience is such a big change in the marketplace.
So we are feeling really good about that. We, as I said in my prepared remarks, we are seeing substantial sales growth both in the box itself and also in the categories that you're supporting. We've also launched our own products. I think we've got that we're going to have them in about just over 15, 16, 17 Kroger stores so that for this gives us an opportunity to put our health and beauty composition and private label and own brands into their customers’ views as well.
And then lastly, when you put together the two customer sets, we serve together round about $20 million customers a day between us. So we have a strong, strong presence in American households and our ability therefore to walk with them being the genuine food expert of America and us being very, very competent we believe in pharmacy health and to some extent beauty categories that relates to health care and wellness. We believe that's going to be a strong opportunity. The procurement structure allows us to earn money in the short to medium term. And of course we will be working together on other issues in the supply chain and also in other issues and procurement we believe as well in the future.
So that's one area where I think we have made good progress both tactically and strategically. With health care, we are well into testing quality brands and quality offers in partnership with others, sort of the acceleration of our lessons learned and optical is one example of it. We are working with vision who are renowned as a quality optical retailer with access to insurance and the very best brands.
We've, we really are delighted to get more opportunities to put doctors into our stores along side pharmacists, and we believe that, well, that will be a longer-term model. We know from experience in Europe that that model can be really effective in delivering end to end primary care in communities.
And last but not least into the Fine Care platform that we have built very quietly with an internal team has really grown and we believe that will be a digital marketplace that will become very important to us into the market in the future, but will take time to grow. So that’s really where we are in terms of that measure.
So we expect some -- contribution over time in the retail side, faster than the contribution maybe in the healthcare side but the healthcare side will come through the hill of scripts over time and the access to more.
And maybe one we didn't get this question but progress on digitalization in the quarter. We've just launched two major initiatives, launched and funded. And I want to kind of go back to the previous guidance we gave. We've got $500 million of capital expenditures behind digital and development plus about 100 to 150 of expense this year.
And we launched two big initiatives in the last count. One is on mass personalization. And that's how do you use your marketing dollars more effectively to target a better connection with the consumer, we believe will significantly underpin particularly the retail revenue profile for a multi-year period. And these are not small investments, they are in the $50 million to $100 million range.
And the second one is the, the prescription journey and I use that one very generically, but it's, again it's a similar size of investment and that's on a two speed, we're not waiting for the core systems to be upgraded, it's on a parallel process and this is a two-ish year journey and what's it going to do, it’s going to connect the consumer, much more closely with the prescription, how they want to deliver how they want to pay for it.
The transparency of the cost of it and the options we give consumers and getting closer to consumers. And the second thing you will do it will take friction out of the system which means it will reduce the cost to fill a prescription.
So we're working on initiatives that don't just boost -- take out costs, but they actually boost revenue and the connectivity to patients and consumers, longer term and in the bump that will be lost. These investments are large and they're multi-year and they will also drive long-term revenue and sustainable growth
And I guess just quickly how do you balance all of those investments in long-term initiatives against some of the quarterly volatility and reimbursement risks and the other moving pieces. On the transformational cost program that you see…
It's tough.
It's not easy. But we have our program management approach. We have got a lot of capable people but it's not easy. And every, but we are paying a lot of attention to the future, I'm to today. As you can tell by the comments that James and I have made…
A lot of these funds go through the transformational cost management program and Alex, myself and Ornella and the head of HR sit on the, we are the 4 people on it.
So it's a small team, takes decisions quickly and frankly some of these are tough tradeoffs and in some quarters you theoretically can't afford it, but you have to do it or otherwise you're going to damage the long-term future of the company.
This is the problem -- Stefano. Yes, we have a strategy, our strategy is as a, as it has always been a medium long-term strategy. And we believe in the pharmacy, we believe in the role that the pharmacy will have in future. Of course the pharmacy will have to be able to satisfy the needs of the patients and the needs of the customers and we are working in that direction.
Not all the pharmacies will survive the future, not all the pharmacies will be important in the local economy of the city or the villages. We try to be a pharmacy that can have a role and of course we have to invest. We have to invest now for the future. If we, if we work just for the next two quarter, maybe we will have a little better results. But at the end, we will probably create a problem upon the long survival of our stores, of our pharmacies. And now you have to take a decision, either you believe in the strategy which is focused on the long term or you just try to look at the next quarters and maybe you try to do deals. Just to let's say, make easier over less evidence that the problems that you have. We have decided to work for the long term and I hope that at the end we would be right.
There are no further questions at this time. I turn the call back over to the presenters.
Thank you very much indeed. Thank you. I know that. Not everyone that want to ask question got to ask the question but as ever, the IR team are here and we'll take your calls. During the courses there in tomorrow and the rest of the week and we look forward to speaking to you all again next quarter. Thank you very much indeed.
This concludes today's conference call. You may now disconnect.