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One reservations rivals have is that Target will attempt to woo back customers once they restart the pharmacy business. (Brett Gundlock for The Globe and Mail/Brett Gundlock for The Globe and Mail)
One reservations rivals have is that Target will attempt to woo back customers once they restart the pharmacy business. (Brett Gundlock for The Globe and Mail/Brett Gundlock for The Globe and Mail)

Target to sell off Zellers' retail drug business Add to ...

Faced with mounting costs in its first foray outside the U.S. to Canada, Target Corp. is trying to turn one of its thorniest issues here into a money generator.

Target, which next year will start converting Zellers stores to its own banner, plans to sell the Zellers prescription customer files to rivals and start fresh with new pharmacies when the U.S. discounter launches its own outlets in 2013, Target officials said. The alternative would have been to try to keep the lucrative Zellers pharmacies open when Target turns off the lights at the Zellers stores for six to nine months for remodelling.

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Industry observers value the Zellers pharmacy business at up to $500-million, although there are doubts that Target could raise nearly that amount in a sale. Still, the money could help cover some of Target’s $2.9-billion (U.S.) tab so far for its Canadian startup.

Pharmacies are appealing because they draw repeat customers in an era when fickle shoppers show little loyalty to any store. And the business is expected to pick up, responding to an aging society that needs more medications. While Zellers has struggled amid heavyweight competition, its pharmacies remain one of its most profitable divisions.

The Target auction is expected to create a feeding frenzy among domestic drugstores, which are racing to find new business amid profit-pinching drug reforms. Potential suitors include the country’s largest players: Shoppers Drug Mart Corp. and Katz Group Canada Ltd., which runs Rexall and Pharma Plus.

“Katz will be a buyer,” said Andy Giancamilli, chief executive officer of Katz. “We will examine each situation to determine the proximity of our stores to the scripts [prescription files]that Target will sell. Based on the distance, competition and overall market, we will determine the bid or if we bid at all.”

The appetite for new pharmacy customers couldn’t be bigger, as new generic drug laws in Ontario, Quebec and a growing array of provinces slice into drugstores’ profits.

Still, Target could face stumbling blocks in the sale process. Competitors may try to entice Zellers’ pharmacy customers, rather than paying for their files. And Target risks fetching only a fraction of the price for the Zellers pharmacies than it otherwise may have got, with prices being discounted because of the possibility that Target will pry customers back when it opens its own stores. The process has the potential to depress all pharmacy acquisition prices in Canada.

“They’re creating their own fire sale,” said Jim Danahy, managing principal at consultancy CustomerLAB, which advises pharmacies. “They will be monetizing at a grotesque discount … It will depress overall prices by putting an extra 50 per cent of inventory on the market in bad times.”

He predicted that Target will fetch as little as 10 per cent of the value of the Zellers’ customer files in light of Target hovering in the background, ready to lure back pharmacy customers once it opens.

Independent pharmacies are sold based on the value of their prescription files. Those files sell for $20 to $50 each, depending on local competition and customers’ age and medical state, Mr. Danahy said. Typical small pharmacies sell for $3- to $5-million today, he said. He suggested that Target may do better by buying small pharmacies close to Zellers’ stores and then running the business there until it can transfer back to the Target stores.

Even so, the Zellers’ prescription business is an attractive acquisition target for competitors. Pharmacies generate profits that can be as much as twice those of non-apparel general-merchandise and food categories, industry insiders said.

And pharmacy customers tend to be loyal. Roughly 25 to 50 per cent of them stay for life, according to data from London Drugs Ltd. in Richmond, B.C. “None of us will pay an exorbitant amount,” CEO Wynne Powell said. “It’s quite a risky purchase. You’re purchasing information; you’re not purchasing a customer … You’re just not sure of getting the customer.”

Target spokeswoman Lisa Gibson confirmed this week that the retailer has said it will sell the Zellers files. “We are still working on our final strategy and don’t have anything definitive to share.”

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