Should This Company Follow in Starbucks' Footsteps?
Jane is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Has Walgreen (NYSE: WAG) overextended itself in buying 45% of Alliance Boots? Will it unravel as Starbucks (NASDAQ: SBUX) did around 2007 when it chased growth at any cost?
The bulls, such as Forbes healthcare journalist Bruce Japsen, are few. Recently, at 28.99, the stock was near the 52 week low of 28.53 and far from the high of 44.26. For one thing, the timing is puzzling - for at least three reasons.
Exposure to Europe
International Alliance Boots is heavily dependent on Europe. Companies like Staples have found that’s not the place to be. A turnaround certainly doesn’t seem imminent. In addition, Walgreen, once your neighborhood drug store, has already expanded into being a healthcare center, convenience store, and even a type of experience-economy plush place to hang out. The latter is a concept it’s testing out in Chicago. No one knows, including Walgreen, how this will translate into increased profits. Third, it hasn’t stabilized yet after it had pulled out of its contract with Express Scripts. Customers in that program had to take their prescriptions elsewhere. The wounds, customer-relations and financial, remain open. For the last quarter, sales were 3.4% lower than the same quarter a year ago and the number of prescriptions is down 8.4%.
Debt dilemma
There is also the matter of debt. Its investment of $6.7 billion in Alliance Boots will be financed by cash and new borrowings, including the $3.5 billion bridge facility from Goldman Sachs and Bank of America Merrill Lynch. The credit rating firm Egan-Jones downgraded it from “A+” to “A.” If there is a second phase to the Alliance Boots strategy, which will mean buying the whole enchilada, it will have to pony up $9.5 billion more. That’s a lot to take on when there is uncertainty about all lines of its business.
Stretching the limits
Overexpansion has been documented by management expert Jim Collins as a predictable stage in corporate collapse. In his book “How The Mighty Fall,” Collins calls the dynamic “Undisciplined Pursuit of More.” The examples he provides include Zayre and Rubbermaid. Yet, Collins, who published the book in 2009, has turned out to be a type of Father McKenzie from the Beatles song "Eleanor Rigby" who writes sermons that no one will hear.
Again Starbucks seems to be chasing growth desperately. Let us count the ways: It is distributing packaged coffee in supermarkets. Soon enough it could also be hawking the La Boulange bread brand it's acquiring in supermarkets too. So why go to Starbucks anyway? In addition, select locations already serve beer and wine. Like Walgreen it is straying far from its core brand identity and relationship with customers.
Another challenge is that it's increasing its overall focus on food. On the one hand, that is a growing revenue producer. On the other hand, that means it is losing its differentiation from that other wildly popular "third place" Panera (NASDAQ: PNRA). Motley Fool analyst Alyce Lomax views Starbucks’ entering Panera’s space as positive. Not so fast, I say.
If the two come to have a food fight, that will, like the cola and cookie wars used to, get plenty of media attention. Conflict makes headlines. Starbucks could lose any aura that remains because when it comes to food Panera has the edge. Panera’s distinct but low-cost cuisine, including its bread displayed European-style, has become cult items. Customers make pilgrimages there for the soups as well as going on the Internet to download the recipes. The Panera brand has myriad associations: third place, just coffee, snack, soup and salad, meal, and lunch on the run. With so many options embedded in the collective memory bank, won’t it seem like a more natural choice for customers to go to Panera? Brands have such a powerful pull force because they make those kinds of decisions for people.
Like Starbucks, Walgreen has been venturing into the space of other established brands. If it can’t hold its own among them, it could dissolve into the same kind of confused identity that seems to plague Sears and Staples. In short, growth is tricky business. That’s why investors reward those public companies which manage that well and sustain the momentum, without sacrificing too much.
janegenova has no positions in the stocks mentioned above. The Motley Fool owns shares of Panera Bread and Starbucks. Motley Fool newsletter services recommend Panera Bread and Starbucks. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.
