Ahead of the Bell: Walgreen deal yields upgrades

Walgreen Co. and pharmaceutical wholesaler AmerisourceBergen Corp. will unlock potential savings and strengthen their purchasing leverage with a new, 10-year supply agreement, analysts said as they raised their ratings on the stocks.

Walgreen, the nation's largest drugstore chain, said on Tuesday that AmerisourceBergen will supply it with both branded and generic drugs for its drugstores and mail order and specialty pharmacy businesses. Walgreen runs more than 8,000 stores. The new deal starts Sept. 1.

In return, Walgreen and European health and beauty retailer Alliance Boots receive the right to buy up to 7 percent of AmerisourceBergen's shares and warrants to purchase an additional 16 percent. Walgreen acquired a stake in Alliance Boots last year and will wind up owning the entire AmerisourceBergen share if it exercises its option to buy the rest of Alliance Boots in 2015.

This deal gives Walgreen better rates compared with its current agreement with Cardinal Health Inc., and the drugstore chain should see a gain in earnings per share ranging from 9 cents to 28 cents in fiscal 2014, Citi analyst Deborah Weinswig said in a Wednesday research note. She raised her rating on Walgreen shares to "buy" from "sell" and her target price on the stock to $51 from $32.

She said the agreement also will reduce costs for the companies and give them greater purchasing scale and global growth opportunities.

The group will be able to leverage the purchasing power of all three companies when negotiating with drugmakers, said another Citi analyst, George Hill, in a separate Wednesday morning research note.

He said the deal is transformational for AmerisourceBergen, and he raised his rating on that company's shares to "buy" from "neutral." Hill also raised his target price on the stock to $62 from $48.

The agreement streamlines Walgreen's supply chain, Credit Suisse analyst Edward J. Kelly said in a Tuesday evening note.

"In addition, the deal builds management credibility as this looks to be a good strategic move for a company that has had some challenges," said Kelly, who raised his target price to $46 from $39 but kept a "neutral" rating on the shares.

Walgreen shares climbed more than 5 percent to close at $44.74 Tuesday after the company announced both the deal and fiscal second-quarter earnings that climbed 11 percent and topped analyst expectations. AmerisourceBergen shares rose 3.6 percent to close at $50.06.

In contrast, shares of Cardinal fell about 8 percent to close at $42.35.