Analysts:MATT HAWKROGER HONGYE JIANGPRATEEK SHARMA

14-Oct- 2010

OUTLINE

Company overviewSWOT analysisMacro economy reviewIndustry analysis/ Porter’s Five ForcesCompetitorsDCF valuationRecommendation

OUR HOLDINGS

RCMP currently owns 500 shares of WAG

WAG DETAIL

RCMP purchased WAG 1,000 shares at $25/share on Oct. 06, 1999

RCMP sold WAG 500 shares at $49.94 Realized gain: $12,470

Currently owns 500 shares trading at $34.27 (as of Oct. 17, 2010) Unrealized gain: $4,635

HISTORY

1901 Charles R Walgreens Sr. purchased Chicago Drug Store where he had worked as a pharmacist -Start of Walgreens Chain

1926 Opened 100th Store

1927 Walgreens Co. Stock went Public

1975 Sales reached $1 Billion

1984 Opened 1000th store

1994 Opened 2000th store

2005 Opened 5000th store

2009 Opened 7000th store

PRESENT

• Walgreens is a retail drugstore chain that sells prescription and non-prescription drugs, and general merchandise– As of Aug. 31, 2010, Walgreens operated 8,046 locations in all 50 states, the District

of Columbia, Puerto Rico and Guam. It employs around 238,000 people

• Sales increased 7.4 percent to a record $16.9 billion for the fourth quarter and 6.4 percent to a record $67.4 billion for the fiscal 2010

• Walgreens filled a record 778 million prescriptions in fiscal 2010 an increase of 7.5 percent. Prescription sales: 65%

RECENT EVENTS

Sept 2010 – Walgreens and Omnicare reached an agreement in which Omnicare will acquire all of the assets of Walgreens long-term care pharmacy business, and in return Walgreens will acquire all of the assets of Omnicare’s home infusion businesses

Aug 2010 – Walgreens announced an agreement with Graymark Healthcare Inc. (NASDAQ: GRMH) in which the company will acquire the assets of 18 ApothecaryRx pharmacies located in Colorado, Oklahoma, Minnesota, Missouri and Illinois

April 2010 – Walgreens acquired Duane Reade Holdings, Inc for approx $1.1bn. The transaction included all 258 Duane Reade stores in the New York City metropolitan area, as well as Duane Reade’s corporate office and two distribution centers

STOCK PERFORMANCE

MANAGEMENT

Key Executives

Mr. Gregory D. WassonPresident and CEO (Feb. 2009)

Mr. Mark A. WagnerPresident-Community Management (Sept. 2010)

Mr. Kermit R. CrawfordPresident-Pharmacy Services (Sept. 2010)

Mr. Wade D. MiquelonExecutive Vice President-Chief Financial Officer (July 2009, joined from Tyson Food in 2008)

GROWTH STRATEGY

• Three Primary Components– Leveraging the best store network in America

• Within five miles of nearly three-quarters of all Americans

– Enhancing customer Experience• Customer Centric Retailing”(CCR): feature lower shelves and about

15 percent fewer individual items, which provides a more efficient and convenient shopping experience for today’s busy consumers. (Now more than 1,800 stores)

• Beer and wine was added to more than 3,500 stores and now is available in a total of nearly 4,200 stores

– Driving cost reduction and productivity gain• Rewiring for Growth: Target for $1 billion in annual savings in fiscal

2011

SWOT ANALYSIS

Strengths Weakness

Market Leadership (approx 30% mkt share)Consolidation of market – reduced independent drug stores

Geographic Concentration - CA, FL, TX,IL, NY 40%Declining Operating Margin -5.13% in 2010 vs. 5.8% Avg. last 5 yrs

Opportunity Threat

Develop drive-thru model In-store clinics Aging Baby BoomersPatent expirations on generics in 2012/2013

From mass merchandisers ( they can afford lower margins) Mail-order businesses (offer greater convenience) Dependence on Medicare/Medicaid (reduction in rates could affect margins)

MACROECONOMIC REVIEW

Macro economy current:The tough economic conditions of 2008 and 2009 had a lasting effect on consumer behavior. Concern over high unemployment and declined consumer confidence affect customer’s spending habit. Price has become the single most important factor in making the purchase decision

Consumer confidence: Unemployment

Source:http://mjperry.blogspot.com/2010/06/consumer-confidence-highest-since-jan.html

MACROECONOMIC REVIEW

As the economy begins to strengthen in 2010 and 2011, decreasing unemployment and rising income levels should boost this industry’s pharmaceutical as well as front-end sales

Also, as more consumers gain employment, the level of insurance coverage is expected to rise, thus increasing the likelihood people will purchase pills and other medicine

Increase in health awareness among people will lead to increase in front-end sales of health related products

Increased spending by the government on Medicare/Medicaid is expected to boost sales

INDUSTRY ANALYSIS

Industry Outlook: The industry outlook is positive: Sales will maintain growth due to an aging population, longer life expectancy and healthcare reform. Revenue is forecast to grow at an average annualized rate of 3.1% to total $251.9 billion in 2015

Highly Competitive Industry M&A: The industry will slow its new store openings after decades of rapid expansion, and

consolidation will continue. Enterprise numbers will decline at an average annualized rate of 1.3% to settle at about 21,786 companies during the next five years

Price: As Mass merchants, mail-order pharmacies and PBMs (pharmacy benefit managers ) continue to pose a threat to industry sales, they place downward pressure on prices

Source:Pharmacies&Drug Stores in the US, ISBS World Industry Report 44611, July 2010

Medical reimbursement levelCertain provisions of the Deficit Reduction Act of 2005 seek to reduce federal spending by altering the Medicaid reimbursement formula for generic drugs. These changes are expected to result in reduced Medicaid reimbursement rates for prescription

Health reformExpand insurance coverage and subsequently increase pharmaceuticals’ demand as they become more affordable

The government is expected to initiate cost cutting, which could adversely affect profit margins

Source:https://materials.proxyvote.com/Approved/931422/20091116/AR_48630/HTML2/default.htm

PORTER’S FIVE FORCES

Barrier to Entry: Medium Consolidation that is creating large players with deep resources

Government and state laws and regulations

Threat of substitutes: Drugs: Low Few alternative choices, inelastic demand

General Merchandise: High Supermarkets are large threats

Bargaining power of buyers: ModerateInelastic demand but thinning profit margin

Bargaining power of suppliers: Moderate The large retailers purchase directly from several suppliers, strong relationship

Rivalry among existing competitors: HighBoth internal and external sources, including other drug store chains or independent drug stores, supermarket chains, mass merchandisers, on-line retailers and mail order pharmacies

COMPETITORS - DESCRIPTION

CVS Caremark – CVS Caremark operates in two segments – Pharmacy Services and Retail Pharmacy. The Retail Pharmacy segment sells prescription drugs, over-the-counter drugs, beauty products and cosmetics, photo finishing, seasonal merchandise, greeting cards, and convenience foods through its pharmacy retail stores and online. It operates approx. 7,000 retail stores. For the year ending 31-Dec-2009, it reported sales of $98.729B

Rite Aid Corporation – Rite Aid operates retail pharmacy stores . As of Feb 2010, it operated around 4,780 stores. It sells prescription drugs and an assortment of other merchandise. For the year ending Feb 2010, it reported a loss of $506.7M on revenues of $25.37B

COMPARATIVE RATIOS

Company WalgreensCVS

Caremark Rite Aid

Ticker WAG CVS RAD Current ROE Current ROA

Profit Margin 3.45% 3.76% -2.88% 3.1%

Asset Turnover 2.62 1.61 3.2 2.62

Equity Multiplier 1.85 1.93 - 1.79

ROE (5-yr avg.) 16.71% 11.69% -256.66% 14.53% 8.13%

Source: Capital IQ

SALES FORECAST

We have optimistic growth expectations for WAG, expecting it to rebound from the economic turmoil it faced over the past two years

($ in millions)

2010 2011 2012 2013 2014 2015 2016$67,420.0 $72,813.6 $79,148.4 $86,588.3 $92,736.1 $103,957.2 $114,352.9

6.45% 8.00% 8.70% 9.40% 7.10% 12.10% 10.00%43,823.0 47,328.8 51,446.4 57,148.3 61,205.8 68,611.7 75,472.9

% sales 65.00% 65.00% 65.00% 66.00% 66.00% 66.00% 66.00%% growth 6.45% 8.00% 8.70% 11.08% 7.10% 12.10% 10.00%

6,742.0 7,281.4 7,914.8 8,658.8 9,273.6 10,395.7 11,435.3% sales 10.00% 10.00% 10.00% 10.00% 10.00% 10.00% 10.00%% growth 6.45% 8.00% 8.70% 9.40% 7.10% 12.10% 10.00%

16,855.0 18,203.4 19,787.1 21,647.1 23,184.0 25,989.3 28,588.2% sales 25.00% 25.00% 25.00% 25.00% 25.00% 25.00% 25.00%% growth 6.45% 8.00% 8.70% 9.40% 7.10% 12.10% 10.00%

6,997 7,561 7879 8241 8612 8956 9292New openings 564 318 362 371 344 336 325

7,561 7879 8241 8612 8956 9292 9617% organic store growth 8.06% 4.20% 4.60% 4.50% 4.00% 3.75% 3.50%% Same store sales 1.98% 3.60% 4.50% 5.00% 5.20% 5.50% 5.60%

Stores, ending

FORECASTEDFY Ending 8/31Sales Forcasted From Stores% Sales Growth

Prescription Sales

Non-prescription Sales

General Merchandise

Stores, beginning

GROWTH DRIVERS

"Our use of cash has been, and will continue to be, guided by a capital policy that commits us to maintaining a strong balance sheet and financial flexibility; reinvesting in core strategies and related strategic activities; and returning surplus cash to shareholders in the form of dividends and share repurchases,“

- Greg Wasson

GROWTH DRIVERS (Cont.)

1. Strong balance sheet and financial flexibilitya) Allows WAG to return income to shareholders in the

form of dividends and stock repurchases

2. Slow store growth to free up capital and focus on WAG’s core business

3. 2009 Repurchase Program4. “2008 Rewiring for Growth” Program

a) Enhance the customer experience (CCR)b) Extend their presence in pharmacy, health and wellness

servicesc) Cost reduction and productivity gain

5. Reduce on-hand inventorya) Eliminate 3,500 products

Source:http://news.walgreens.com/article_display.cfm?article_id=5260

RESULTS

Sustain long-term revenue growthIncrease margins through cost reduction

(“Rewiring for Growth”) 2010 - $600 million cost reduction 2011 - $1000 million cost reduction ($400 million net gains)

Double digit EPS growth30-35% return to shareholders

Low leverage allows WAG to compensate equity holders

Source:http://news.walgreens.com/article_display.cfm?article_id=5260

ROE

2010 2011 2012 2013 2014 2015 2016Tax Burden 61.99% 63.47% 63.47% 63.47% 63.47% 63.47% 63.47%Interest Burden 97.54% 96.81% 97.55% 97.53% 97.69% 98.06% 98.36%Profit Margin 5.13% 4.97% 5.96% 6.51% 6.50% 6.90% 7.42%Asset Turnover 256.59% 260.51% 258.25% 256.77% 252.00% 256.00% 254.41%Leverage Ratio 182.47% 173.20% 172.50% 171.00% 170.00% 169.50% 168.50%ROE 14.52% 13.79% 16.43% 17.70% 17.27% 18.64% 19.86%

FORECASTED

DEBT SCHEDULE(WITHOUT OPERATING LEASES)

($ in millions) Book Interest Debt / Estimated MaturityValue Rate Yield LTM EBITDA Interest Date

Cash $2,087.0Secured DebtRevolving Credit Facility 0.0 L + .525% 0.0 Nov-11 Unsecured Debt4.875% Senior Notes 1,294.0 4.88% 63.1 Aug-135.250% Senior Notes 995.0 5.25% 52.2 Jan-19Variable Loans 57.0 NA NA

Total Debt $2,346.0 .6x $115.3

Preferred Stock 0.0Shareholders' Equity 34,008.3Total Capitalization $36,354.3Debt/ Capitalization 6.45% 2009 EBITDA 4,222.0

Capital Expenditures 1,927.0Cash 2,087.0Revolver Availability 1,200.0 2009 EBITDA / Interest Expense 36.6xTotal Liquidity $3,287.0 (2009 EBITDA - Cap Ex) / Interest Expense 19.9x

CAPITALIZATION SUMMARY

2009 CREDIT STATISTICS

DEBT SCHEDULE(WITH OPERATING LEASES)

Although WAG doesn’t have much long-term debt, its operating leases make it a muchmore highly levered company

($ in millions) Book Interest Debt / Estimated MaturityValue Rate Yield LTM EBITDA Interest Date

Cash $2,087.0Secured DebtRevolving Credit Facility 0.0 L + .525% 0.0 Nov-11 Unsecured Debt4.875% Senior Notes 1,294.0 4.88% 63.1 Aug-135.250% Senior Notes 995.0 5.25% 52.2 Jan-19Variable Loans 57.0 NA NA

Operating Leases 19,869.8 2,024.0 NA

Total Debt $22,215.8 5.3x $2,139.3

Preferred Stock 0.0Shareholders' Equity 34,008.3Total Capitalization $56,224.1Debt/ Capitalization 39.51% 2009 EBITDA 4,222.0

Capital Expenditures 1,927.0Cash 2,087.0Revolver Availability 1,200.0 2009 EBITDA / Interest Expense 2.xTotal Liquidity $3,287.0 (2009 EBITDA - Cap Ex) / Interest Expense 1.1x

2009 CREDIT STATISTICS

CAPITALIZATION SUMMARY

WACC – W/ OPERATING LEASES

Risk Free Rate (Rf)

2.46%

Beta 0.82

Market Risk Premium

6.00%

Cost of Equity (CAPM)

7.38%

Cost of Debt 5.25%

Tax Rate 36.53%

Cost of Debt (After-tax)

3.33%

Weight of Equity 0.605

Wight of debt 0.395

WACC 8.63%

CAPM COMBINED ROE

7.38% 12.09% 16.79%

COST OF EQUITY

Cost of Debt WACC Cost of Equity

3.33% 8.63% 12.09%

Weight: 39.50%

Weight: 60.50%

DCF – W/ OPERATING LEASES

($ in millions) 1 2 3 4 5 6Forecasted FCF's: 2,144.6 1,427.0 1,613.7 1,828.0 2,052.1 2,326.7Terminal Value 52,296.9Discount Factor: 0.921 0.847 0.780 0.718 0.661 0.609

Discount FCF's $1,974.2 $1,209.3 $1,258.9 $1,312.8 $1,356.8 $33,247.0

Discount Rate 8.63%Terminal Growth Rate 4%Enterprise Value $40,359.1Net Debt 22,215.8Equity Value 18,143.3

Shares Outstanding 977.25

Share Price $18.57

DCF ANALYSIS (WITH OPERATING LEASES)

$18.57 7.5% 8.0% 8.5% 8.63% 9.0% 9.5% 10.0%2.5% 17.93 14.13 10.96 10.24 8.28 5.99 4.003.0% 21.62 17.07 13.36 12.52 10.26 7.65 5.413.5% 26.23 20.67 16.24 15.25 12.61 9.59 7.034.0% 32.15 25.18 19.76 18.57 15.42 11.88 8.934.5% 40.05 30.96 24.15 22.69 18.86 14.63 11.175.0% 51.10 38.68 29.81 27.95 23.16 17.99 13.865.5% 67.69 49.48 37.35 34.88 28.69 22.19 17.14

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WACC

SENSITIVITY ANALYSIS (WITH OPERATING LEASES)

RELATIVE VALUATION

Parameter Ratio Value

P/E(ttm): 16.22 $34.41

Forward P/E 13.50 $28.89

P/S(ttm) 0.49 $32.36

P/B 2.31 $32.40

Price Range: $28-34

PERFORMANCE OVER TIME

RECOMMENDATION

Hold 500 shares at current priceAny merger or acquisition in the industry

could provide stimulus to stock priceRegular dividend paying stockConsistently outperformed both S&P 500 and

DJIA