Walgreens’ deal for Duane Reade: The chain that would be king in the town that never sleeps

WHAT IT MEANS AND WHY IT’S IMPORTANT Is the merger agreement between Walgreens and Duane Reade another sign of rampant chain drug consolidation and attrition, or just a bold and long-expected move by two of the industry’s premier practitioners?

(THE NEWS: Walgreens to acquire Duane Reade. For the full story, click here)

The Walgreens-Duane Reade agreement has unleashed a flurry of speculation about other possible takeover candidates in drug store retailing — and about the eventual fate of the chain drug store industry itself. Much of the conjecture focuses on Rite Aid, with some industry observers and Web bloggers predicting that the nation’s No. 3 drug store operator will be next on the buyout list. The faulty underlying premise: There’s only room in the drug store market hierarchy for two national market leaders, not three.

One industry wag [no pun intended, Walgreens!] even predicts that within a quarter-century there will be only two chain drug store retailers left, and that the consolidation going on in the chain drug arena will reduce the industry to the state of the home center/home improvement channel, currently dominated by Lowe’s and Home Depot. But that scenario ignores the reality: unlike home centers, which must draw from a wide geographic area and ride the boom-bust cycles of construction and home remodeling to achieve critical mass, drug stores remain an everyday fixture of the American retail landscape, appealing to a broad swath of consumer needs in health, wellness, personal care, beauty care and convenient everyday necessities.

As Drug Store News editor Rob Eder wrote, “People have been anticipating the sale of Duane Reade for many years now; to pretend it's a harbinger of the end of times for the drug channel is not only a tad over-dramatic, it’s terrifically myopic. The modern retail pharmacy business is much bigger than just the pure-play drug store channel; it’s food, drug, mass and independents.”

What’s more, Eder pointed out, one need only look at the supermarket industry to poke holes in the end-of-times thesis for drug chains. A slew of healthy food-store brands continues to thrive and compete across the country, spawning constant innovation and new in-store services as those chains develop “green” marketing practices, healthier eating choices and new ways to marry the health/wellness and professional services offered in their pharmacies with nutritional offerings in the aisles.

As for the undeniable consolidation that has occurred within the ranks of pure-play drug store operators, the merger and acquisition game will surely go on as bigger chains seek rapid entry into new markets. But that cycle is nothing new, and newly hatched drug chains continue to spring shoots as independent pharmacists grow their businesses and branch out. What’s more, Eder wrote, “Independents under the Leader, Good Neighbor, Health Mart and United Drugs banners are another reason why the retail pharmacy business will be a whole lot bigger and more diverse than the home center channel, for many, many years to come.”

Some Wall Street analysts have also questioned the wisdom of Walgreens’ deal for Duane Reade, noting that the company is paying on the upper end of market value for the company, and will eventually have to contend with new lease negotiations in New York’s high-cost commercial real estate market. But the sense here is that Walgreens’ grab for Duane Reade will, in the not-too-distant future, pay big dividends and position the company for the next upward tick in the economy and the next century of retail leadership, and that Walgreens will be hailed for its daring and prescience.

Yes, the chain paid a modest premium for the company, with an average per-store price of roughly $4.1 million if you don’t factor in the two distribution centers and the company’s central office on Ninth Street in Manhattan. But for their billion-dollar upfront investment, Walgreens is staking claim to some of the busiest, most productive retail sites in America, along with a commanding, saturation-level presence in the nation’s richest drug store market.

What’s more, the chain is importing management expertise in how to market to big-city consumers from one of the nation’s premier urban drug store practitioners. Nobody knows how to appeal to densely populated neighborhoods — not to mention the fickle tastes of time-strapped city dwellers and commuters who are always in a hurry — like Duane Reade, which markets on a neighborhood-by-neighborhood, store-specific basis and racks up the highest sales per sq. ft. in the drug store industry.

“The good thing is we feel their footprint is very complementary to ours,” Walgreens president and CEO Greg Wasson told Drug Store News Thursday. “Secondly, most urban markets like New York and San Francisco, you can have drug stores on opposite corners and they can be competitors and both do very well.”

With this deal, Walgreens will position itself not only on Main Street America, but also at its front door.