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Amazon (NASDAQ: AMZN) devours everything in its path. First, it made bookstores obsolete. Now, it’s going after grocery stores, with its $14 billion acquisition of Whole Foods. Soon, Amazon could have the health products industry in its sights.
Amazon is interested in entering health-care products distribution, according to reports that have surfaced in recent weeks. The move makes great sense. Since Amazon already delivers virtually everything under the sun directly to consumers, why can’t it deliver medical supplies?
As a result, both Walgreens Boots Alliance (NYSE: WBA) and CVS Health (NYSE: CVS) have underperformed the S&P 500 this year. Investors are concerned that Amazon could disrupt the medical supplies business, just as it disrupted retail. However, Walgreens and CVS are set up well to defend themselves against Amazon.
Barbarians at the Gate
Reportedly, Amazon has entered preliminary discussions with mid-market pharmacy benefits managers. Amazon is said to be considering a mail-order pharmacy business, targeted initially at consumers with no insurance or those with high deductibles.
Presumably, Amazon’s goal would be to utilize the same tactics it has used against retailers—specifically, under-cutting on price and providing the convenience of at-home delivery—against pharmacies like Walgreens and CVS.
Indeed, brick-and-mortar retailers of all kinds, are facing a threat like never before. Walgreens and CVS operate thousands of physical stores around the U.S., meaning they would be a great risk should Amazon be successful in its efforts to enter the healthcare industry.
And yet, both health products retailers continue to grow. Through the first three quarters of fiscal 2017, total revenue is up 2%, while earnings per share are up 10%. CVS’s revenue is up 4% so far this year. Both companies have outlooks for growth going forward, even with the Amazon threat.
2 Health Products Retailers Are Still Buys
Walgreens and CVS have a lot to offer investors, particularly those who like dividends. CVS has increased its dividend for 14 years in a row, while Walgreens has raised its dividend for over 40 years. Walgreens and CVS have current dividend yields of 2% and 2.5%, respectively. This means they offer solid income today, with the potential for higher income down the road, as well as dividend increases each year.
Why they are likely to remain strong dividend growth stocks? It is simply because Amazon lacks the infrastructure to push these health products retailers out of the pharmacy industry. Brick-and-mortar retail is under pressure from a broad perspective, but pharmacy retail is a different entity. It is likely physical pharmacy retail stores will always be in demand, as consumers still see value in asking pharmacists for help and advice.
Walgreens and CVS each have around 10,000 stores, along with hundreds of distribution centers in the U.S. This provides them with a wider economic “moat,” or competitive advantage, than most other retailers currently enjoy. Walgreens and CVS dominate the industry, thanks to tremendous distribution and scale.
In addition, consider that Amazon is targeting the low-income and uninsured, which will be a difficult market to enter. And, Walgreens and CVS have prepared for the shift to the digital age. CVS already offers online ordering and delivery, so it will not be caught off-guard by Amazon.
Walgreens in particular has a strong growth catalyst, in the form of its recent acquisition of 2,000 Rite Aid (NYSE: RAD) stores. Walgreens is laying out over $4 billion in cash for nearly 2,000 Rite Aid stores, a few distribution centers, and inventory.
Both Walgreens and CVS have strong balance sheets, which allow them to invest in growth initiatives such as acquisitions.
Amazon terrifies brick-and-mortar retailers, and for good reason. But when it comes to pharmacy benefits management, Amazon might be biting off more than it can chew. Both of these health products retailers are still strong buys for dividend growth investors.