Walgreens’ Rise As America’s Dominant Drugstore

There is a list of about 300 companies in the world that, if you bought even a token amount of the company’s stock a few decades ago, you would have created a silly high amount of total cumulative wealth.

Walgreens is one such example. Shares of the Illinois-founded drugstore have compounded at 18.7% over the past thirty years, turning even a trifling $2,500 investment into over $1 million in personal net worth.

It’s not like that would have been an inaccessible amount of money to have on hand. In 1988, the average Famous-Barr credit card balance after the Christmas season was $1,232. For a member of the middle class, the amount necessary to buy a small chunk of stock in 1988 was only the equivalent to two or so Christmases worth of spending. If someone had the capability to put $2,500 or so in knickknacks on the Famous Barr credit card in 1988 and 1989, they also had the capability to build a million-dollar fortune with the same amount of capital just by making a different choice of purchasing Walgreens stock instead.

I trudge on even if that observation is politically incorrect. One of the best lines in the Bible comes from King Solomon: “My people are destroyed for lack of knowledge: because thou hast rejected knowledge, I will also reject thee” (Hosea 4:6). Having the knowledge to just throw a few grand at a well-established, profitable firm and let it roll on for decades is one of the greatest payoffs you can ever receive relative to effort deployed.

A lot of cleverness and sophistication is responsible for Walgreens’ rise as America’s dominant retailer. Charles R. Walgreen saw how much the steelworkers on Chicago’s South Side were sweating in the 1920s, and lured them into his drug store with elaborate ice cream and soda concoctions that would often be accompanied with a fountain soda. This gave Charles Walgreen immense start-up capital to develop a soup and sandwich operations that would serve as the “draw” during the ten months of the year when Chicago weather does not facilitate ice cream desire.

Although fountain sodas and ice creams are not part of Walgreens’ business model anymore, it is illustrative in explaining why Walgreens has prospered while many of its 20th century peers, such as Skaggs, Osco, Sav-On, Eckerd, Rite-Aid, and RevCo, failed or fell behind.

Walgreens has spent a century taking action to make sure that it is the most capitalized drug store on the block.

How did they do this?

Between the 1930s and 1960s, Walgreens sold beer and cigarettes at a 15% mark-up to its gas station rivals, becoming a source of easy profit.

The upside of making “dirty” money by selling vice products is that Walgreens took the profits from its beer and cigarette sales and built a national prescription drug network that maintained a customer’s information anywhere. You could be a Missouri resident with a prescription and then have it fulfilled during a month-long trip to Dallas, Texas. The convenience factor of the Walgreens system meant that it didn’t have to compete on price–if some other drug store could fulfill your prescription for a slightly discounted price, you statistically weren’t likely to switch.

Also, it operated in an industry in which size does not create consumer prejudice. In the fast casual sector, becoming a chain such as Applebee’s, Chili’s, Ruby Tuesday, Red Lobster, or Olive Garden has become a source of consumer disfavor. That type of prejudice does not carry over when someone is buying pills–being an established operator is an advantage over being the new corner joint.

By obtaining this competitive advantage, Walgreens was then able to fortify its strengths by engaging in pro-consumer behavior. For instance, Walgreens was the first drug store to introduce child-proof containers for drug prescriptions, decades before it was required by law. Also, to the great displeasure of Big Pharma, Walgreens supported laws and internal policies that it made easier to obtain generic drugs compared to the name-brands to save their customers money. These types of actions, which created Walgreens’ “economic moat”, was entirely possible because if its strong capitalization.

In recent memory, Walgreens decided to buy a portion of Rite-Aid’s stores. How was it able to pick and choose which stores it wanted to add to its portfolio? The fact that it was sitting on $10 billion in cash at the time, an unparalleled figure in the industry.

These are the types of advantages that can make a business sustainable for the long haul. For almost half a century, Charles Walgreen III ran the company, being a licensed pharmacist and focusing on honoring his family’s legacy. Walgreens shareholders should be thankful that Walgreen III was not an-MBA financial engineering type. The long-term success story has been the product of amassing capital from innovation and convenience, and then putting that capital to use to burnish trust and improve convenience even more. That is why Walgreens enjoys a 30% profit margin advantage over its peers, providing added capital that can burnish the virtuous cycle again and again. If I had to make a list of ten brick-and-mortar chains to hold for the next fifty years, Walgreens would occupy one of the top spots.