Matt Schroeder - Chief Accounting Officer John Standley - Chairman and CEO Kermit Crawford - President and COO Darren Karst - Chief Financial and Chief Administrative Officer Bryan Everett - COO, Rite Aid Stores

John Heinbockel - Guggenheim Securities James Auh - Cowen Kevin Hartman - Goldman Sachs Suzie Yoon - Evercore ISI Glen Santangelo - Deutsche Bank William Reuter - Bank of America George Hill - RBC Carla Casella - JP Morgan

Good morning. My name is Krista, and I'll be your conference operator today. At this time, I would like to welcome everyone to the Rite Aid Fiscal Year 2019 Second Quarter Earnings Conference Call. [Operator Instructions] I would now like to turn the call over to your host, Matt Schroeder, Chief Accounting Officer. You may begin.

Thank you Krista, and good morning everyone. We welcome you to our second quarter earnings conference call. On the call with me today are John Standley, our Chairman and Chief Executive Officer; Kermit Crawford, our President and Chief Operating Officer; and Darren Karst, our Chief Financial and Chief Administrative Officer. On today's call, John and Kermit will provide an update on the business. Darren will provide an update on our second quarter results, and then we will take questions. As we mentioned in our release, we are providing slides related to the material we will be discussing today. These slides are provided on our website, www.riteaid.com under the Investor Relations Information tab. We will not be referring to them in our remarks, but hope you’ll find them helpful, as they summarize some of the key points made on the call. Before we start, I’d like to remind you that today’s conference call includes certain forward-looking statements. These forward-looking statements are presented in the context to certain risks and uncertainties that can cause actual results to differ. These risks and uncertainties are described in our press release in item 1A of our most recent annual report on Form 10-K and other documents that we file or furnish to the Securities and Exchange Commission. Also, we’ll be using certain non-GAAP measures in our release in any accompanying slides. The definition of the non-GAAP measure along with the reconciliation to the related GAAP measure, are described in our press release and slides. With these remarks, I’d now like to turn it over to John.

Thanks, Matt, and thanks to everyone for joining us on the call today. It is with a heavy heart that we have our conference call today. Our Rite Aid team remains deeply saddened by the senseless tragedy that occurred last week at the Liberty support facility in Aberdeen, Maryland. Our thoughts are with the victims, their families and all of those affected by this horrific incident. All of us at Rite Aid are committed to providing the necessary support to help those who need it as a result of this incident. We ask that everyone keep the victims, their families and our Liberty and Perryman teams in their thoughts and prayers. We will now provide you with our quarterly earnings report. During the quarter, we’ve been hard at work, accelerating our standalone strategy to increase the value of our organization in the near-term while beginning a separate effort to further evolve our strategy for the long-term. In the second quarter, we made critical progress on both of these fronts. Our results show that we generated positive top-line momentum in same store sales and script count as we continue to exercise SG&A expense control and deliver a great experience to our customers. At the same time, we also engaged with many of our largest stockholders to ensure alignment between our Company and its investors as we begin to evaluate how to evolve our long-term strategy. As announced this morning, based on the valuable insight we received, we are accelerating our efforts to refresh our Board of Directors by nominating three new independent directors separating the Chairman and CEO roles and appointing Bruce Bodaken as Chairman effective at the 2018 Annual Meeting of Stockholders. We believe these changes will significantly strengthen and enhance the Board’s governance oversight as we continue to develop and implement or strategy to best position Rite Aid in creating long-term value for our stockholders. In terms of our second quarter results. Adjusted EBITDA from continuing operations was $148.6 million, compared to $136.9 million for the same period last year, and prior year pro forma adjusted EBITDA from continuing operations of $160.9 million. Prior year pro forma adjusted EBITDA from continuing operations includes $24 million of fees that would have been earned if all of the stores that were sold to WBA were supported under the TSA for that period. In the Retail Pharmacy segment, adjusted EBITDA from continuing operations decreased $8 million, compared to prior year pro forma adjusted EBITDA, which is due to a decline in reimbursement rates that we cannot fully offset with generic purchasing efficiencies and script count growth. In the Pharmacy Services segment, which includes our full service EnvisionRxOptions PBM, adjusted EBITDA from continuing operations decreased $4.3 million, due to margin compression in the commercial business and other operating investments to support current year and future growth, but improved significantly from last quarter. A key highlight of the quarter was our success in driving top-line momentum in terms of revenue, same-store sales and prescription count. Revenues from continuing operations for the quarter were $5.4 billion, compared to $5.3 billion in the prior year period. Revenue increased in both segments with the growth in the Retail Pharmacy segment being driven by a 1% increase in same-store sales. Pharmacy sales increased 1.6%, mostly due to 1.1% increase in prescription count. Revenue growth in the Pharmacy Services segment was driven by an increase in Medicare Part D membership. This top-line growth is important, because it validates the key elements of our strategy are gaining traction. Heading forward, we are focused on 3 strategic priorities: Serving as the trusted advisor to our pharmacy customers; providing our customers with a convenient and personalized shopping experience; and building a winning value proposition for payers and providers. These strategic priorities are designed to capitalize on Rite Aid valuable store base and PBM businesses to grow revenues, improve efficiency and drive profitability. To achieve these priorities, we’re implementing a number of key initiatives including improving payer relationships to stabilize reimbursement rate pressures, working to expand access to limited and preferred networks, enhancing our pharmacy clinical capabilities to improve outcomes, leveraging our valuable wellness brand, refining our merchandising, expanding our omni-channel capabilities, and expanding our PBM EnvisionRxOptions Medicare Part D business. Finally, we’re also focused on obtaining efficient drug pricing and continuing to control and right size costs through a leaner, more efficient structure. In terms of improving payer relations and managing reimbursement rate pressure, these efforts are already benefitting fiscal 2019 with improvements in reimbursement rate trends. And we’ve made some early progress for fiscal 2020 by gaining increased Medicare Part D preferred network access. In terms of leveraging our valuable wellness brand, we have successfully reestablished wellness plus rewards at an independent loyalty offering, while significantly enhancing the program by introducing Bonus Cash, which has been very well received by our customers. We’ve also continued to build new stores and convert additional locations to our innovative wellness store format, which we believe is the best format in the chain drug industry. These combined efforts have generated the top-line momentum that is reflected in our results. In the second quarter, we delivered our strongest front-end comps in 6 quarters and our strongest same-store prescription count in 9 quarters. And as we said for some time, we expect same-store prescription count to be stronger in the second half of the fiscal year as we cycle significant plan exclusions from last year. At the same time, we’re making progress growing EnvisionRxOptions. We’ve made some important strategic decisions with Envision, most notably transitioning our Medicare Part D portfolio to include a higher percentage of chooser members. With this transition well underway, we continue to expect to gain over 200,000 net new Part D lives to begin 2019, as compared to January 2018. We are also excited to be reentering the California market with our Part D chooser product at a very competitive price point, as well as minimal premium increases in our existing chooser geographies. We expect this will continue to drive significant Part D membership growth in 2019. Next, we have a very important opportunity as we continue our efforts to manage our drug costs in the most efficient way possible. As we discussed, we’re exploring all potential options, including the option to enter into the WBAD consortium and purchase drugs at Walgreens price for up to 10 years. This option is very significant for helping us drive short-term growth, because even with our smaller footprint, at a minimum, we’ll be able to purchase generic drugs at the same rate as a key large scale competitor. We expect to make our decision this fall. And finally, we’re going to continue our efforts to implement cost savings. We already have made some significant progress managing SG&A expense and have plans to reduce SG&A as stores roll off to TSA with WBA. Our goal is to take out $96 million of cost as we better align our organization to our new store footprint and we have a plan to achieve this. On a parallel path, we plan to make investments in new technology to further strengthen our omni-channel capabilities, operate more efficiently and enhance the customer experience in our stores. And as we generate the momentum in these key areas of our business, we have seamlessly executed the TSA with Walgreens, which is continuing to generate income. So, as you can see, we’ve made some important progress during the first half of fiscal year. And this progress gives us important momentum as we look to accelerate our near-term strategy while heading into our busiest time of year. Separately, we are ramping up our efforts to evaluate our longer-term strategy to identify the best approach to further evolving our business in the broader retail and healthcare marketplace. As a company, we have a strong foundation for future growth. We have a trusted and well-known brand, an award winning loyalty program, a unique and differentiated wellness store format, and an expanding offering of health and wellness services. We have also significantly reduced our debt and improved our balance sheet, and we’re seeing positive trends in our top-line performance in script count. While we have a tremendous amount of work ahead of us, we have full confidence in our strategy, our team and our Company to succeed as we build significant momentum for the future. We’re very excited to continue capitalizing on the key opportunities we have as we enter our critical time of the year. At this time, I’d like to turn it over to our President and Chief Operating Officer, Kermit Crawford, who will share additional details about the operational progress that is helping to drive our near-term strategy. Kermit?

Thank you, John, and thanks to everyone for joining us today. Our near-term strategy focuses on the most critical area for driving increased value throughout our organization over the next couple of years. Today, I’d like to spend time, providing an operational update for each of these areas and further explaining the key initiatives that will be the driving force behind our near-term growth. One of our most important areas of focus is to continue expanding our access to preferred and limited networks. To build on John’s comments, in addition to Envision’s Medicare Part D preferred network, we’ll also participate in one national and two regional preferred networks in calendar 2019. We also continue to have discussions on opportunities to increase both our Medicare Part D and commercial preferred network access for calendar 2020. Maintaining network access will help us to ensure that we successfully capitalize on our current script growth momentum. Our prescription count has increased ahead of plan as we cycle certain network exclusions and continue enhancing our clinical pharmacy capabilities which drive script growth count while also improving patient health outcomes. Heading forward, we will continue to enhance our clinical capabilities by expanding efforts around medication adherence, medication therapy management, and immunization. In the second quarter, our focus on improving medication adherence helped drive an increase in 90-day prescription, which also contributed to our script growth for the quarter. As we look to deliver a higher level of care by providing medication therapy management services to additional patients, we also see a tremendous opportunity to grow our highly successful immunization program, which is already delivering strong results this year. The number of ancillary non-flu immunization given by our certified pharmacists nearly doubled during the quarter with the new Shingrix vaccine continuing to perform well. In addition, we’re entering our busiest time of year for flu shots, which are conveniently available with no appointment necessary and at no cost through most insurance plans. This year, we are prepared to administer another record number of ancillary and flu immunizations, while continuing to grow this important part of our business. To further support script growth, we’re also ramping up our efforts surrounding prescription file buys with an eye toward completing a higher number of transactions as market conditions allow. Year-to-date, we’ve completed $20.5 million in file buys and we’ve allocated a total of $60 million for fiscal year ‘19 as we aggressively pursue this growing opportunity to increase prescription count. We also have a great opportunity to drive growth by leveraging our valuable wellness brand. Our highly popular wellness+ rewards loyalty program remains an important part of our unique brand. And it continues to make significant contributions to our business. As John mentioned, we have successfully introduced Bonus Cash as our primary savings vehicle for this program. Bonus Cash has significantly increased customer engagement and is now redeemed in 1 out of every 5 transactions. To further strengthen our brand, we have partnered with a top-tier marketing and advertising agency in Havas North America, which helped us develop a comprehensive marketing campaign that is supporting our annual flu immunization program. We are supplementing this partnership with 4 additional agencies with specific areas of focus including T3 for social strategy and content, PureRed for circular design and production, Elite SEM for digital media planning, and JPL for e-mail and direct mail. Another key part of enhancing our brand awareness is through our wellness store format, which we believe is the best store format in our industry. Remodeled and newly opened wellness stores continue to outperform the rest of the chain in terms of same-store front-end sales and script count. And by the end of the fiscal year, they will represent more than 70% of our entire store base. This innovative format will also serve as a showcase for innovation as we continue efforts to refine our merchandising. We’re really excited to be developing more customized, local assortments, expanded ethnic and bilingual merchandising, and additional healthy options to support our customers in their health and wellness journey. And as we optimize the offering inside of the store, we’ll also be highly focused on enhancing this customer experience at all touch points as we look to expand our omni-channel capabilities. We’ve already made significant progress with our newly redesigned mobile app, which has a 4.7 star rating and is driving increased engagement and prescription refills. In addition, we are leveraging wellness+ awards data to continue our successful shift from print to digital advertising, with leading loyalty management platforms being integrated to enhance personalization in all direct channels. Whether our customers are shopping with us in-store or online or using our mobile app or drive-through, we are highly focused on making sure they have a great Rite Aid experience. Another key part of our strategy focuses on growing EnvisionRxOptions, specifically its Medicare Part D business. To-date, our record growth from Medicare Part D has continued. We have now enrolled over 575,000 Part D members and anticipate steady growth for the remainder of the year and meeting our goal of over 600,000 in enrolled lives by the end of calendar 2018. All told, we would have gained over 200,000 net new Part D lives to begin 2019 when compared to January 2018. Finally, as we move toward the end of the commercial selling season for calendar 2019, while we have experienced a number of wins in terms of lives gained, those gains have been offset by the loss of a larger client. At the same time, we’ve been able to secure renewals from the vast majority of our clients with client retention rate expected to be approximately 95%. Two of our most critical areas of focus will be stabilizing reimbursement rate pressure and obtaining efficient generic drug pricing. In terms of reimbursement rate, we have made an important progress by securing multi-year commercial contracts with generic effective rate protection for over 80% of our business to add even greater predictability and reimbursement rate going forward. In addition, we all understand the significance of delivering the most efficient way possible to manage our drug purchasing costs. As John said, we are exploring all avenues including the attractive WBAD option. Our current wholesale contract expires in March of 2019 and we are in the process of evaluating pricing to ensure we maximize our profitability going forward. And finally, in terms of SG&A, we continue to see significant opportunities to deliver cost savings and improve expense controls. This includes evaluating and optimizing our store base. We have closed 41 of an identified 100 underperforming locations this fiscal year and continue to evaluate the rightsizing of our organization as we wind down the TSA with WBA. Before I turn it over to Darren, I’d just like to say that I appreciate the many efforts of our team and the operational progress we’re making as we execute our near-term strategy. As John mentioned, in the second quarter, we delivered our best front-end sales performance in six quarters and our best same store script count performance in nine quarters. As we look to build on this momentum, we continue to assess key opportunities and strategic partnerships that will accelerate the evolution of our long-term strategy. Thank you for your time. Now, I’ll turn it over to Darren Karst for more information on our financial results. Darren?

Thanks, Kermit, and thanks to everyone for joining us today. I’ll walk through our second quarter financial results and provide an update on the use of proceeds and bond redemptions related to the WBA asset sale. I’ll also touch on some minor changes that we have made to our non-GAAP performance measures. But before I begin that discussion, I’d like to address the intangible asset impairment charge we took on our EnvisionRx business. We would typically perform an annual assessment of our long-lived intangible assets including a goodwill impairment test during our fourth quarter. However, when there are indicators of impairment during the year, we are required to test for impairment during interim periods. As a result of the changes in our guidance, which were primarily driven by industry-wide pressures impacting our retail business, we were required to perform impairment testing of all of our intangible assets including those at Envision during our second quarter. After taking into consideration our current growth rate expectations for Envision, we concluded that there was an impairment of our intangible assets of approximately $283 million net of tax. In spite of that accounting adjustment, we continue to see tremendous opportunities for growth in our business but the projected ramp up of EBITDA growth has been delayed somewhat from our earlier expectations due primarily to slower than expected growth in our commercial business and to lesser extent, the loss of excess to a fertility drug for direct-to-consumer program that we administered. So, as a result, the value determined by the discounted cash flow portion of the valuation analysis was lower than when we performed our annual impairment assessment at the end of fiscal 2018. That said, we continue to see robust growth opportunities in our Med D business and we also expect our commercial business to experience growth over time. So, despite this non-cash charge, we remain confident in our ability to grow Envision over the long term and continue to view Envision as a very valuable asset. Now, let me turn to a review of our asset sale proceeds from WBA and our current capital structure. As we discussed on our previous calls, as of March 27th, we had completed the sale and transfer of all 1,932 stores to WBA and received cash proceeds totaling nearly $4.2 billion. After the end of the second quarter, on September 13th, we completed the sale of our Dayville Distribution Center to WBA and received an additional $60 million of proceeds that were used to further reduce debt. These amounts do not include about $160 million that will be received after we sell the two remaining distribution centers to WBA, which is required before the end of the TSA agreement. As we discussed on our last call, the proceeds we have received to-date, have been used to pay off all of our $970 million of term loans, our 9.25% note which we redeemed on April 12th, our 6.75% notes, which we redeemed on June 25th, and we reduced our 6.8% notes by $46 million. We’ve also reduced our revolving credit commitments from $3.7 billion to $2.7 billion to reflect our reduced borrowing requirements. The result of all this debt reduction is that we now have a very manageable capital structure with none of our debt maturing prior to 2023, other than our revolving credit facility. We are currently planning to refinance our revolver before the end of fiscal 2019 and expect that maturity to be pushed out to at least 2023. The receipt of proceeds and pay down of debt to-date has given us a debt balance net of cash of about $3.4 billion as of quarter-end and a leverage ratio of approximately 5.4 times trailing pro forma EBITDA, or 5.1 times trailing pro forma EBITDA when adjusted for the effect of the sale of the distribution centers to WBA. Our liquidity today is strong at over $1.3 billion. I’ll now turn to a review of our second quarter results. Note that all of the data that I reference will be for our continuing operations. Revenues for the quarter were $5.4 billion, which was an increase of $76 million from the prior year quarter or 1.4%. Net loss from continuing operations was $352 million or $0.33 per share versus a net income of $188 million or $0.18 per share in the prior year. The net loss in the current quarter was due primarily to the intangible asset impairment charge of $283 million, which I previously mentioned. Net income from the prior year quarter was impacted favorably by the receipt of a one-time $325 million merger termination fee from WBA. Other factors driving the increased loss were higher lease termination and impairment charges, merger and acquisition-related costs, and a non-recurring litigation settlement charge, partially offset by an increase in adjusted EBITDA. The litigation charge during quarter was related to a settlement of a class action lawsuit, whereby Rite Aid was charged with not providing suitable seating for store associates in the state of California. This litigation has impacted and will continue to impact many retailers in California. Adjusted net loss in the current quarter was $7.9 million or $0.01 loss per share versus adjusted net income of $17.4 million or $0.02 per share in the prior year quarter. The increase in lease termination and impairment charges drove most of this difference. During the second quarter, we did a more extensive assessment of store impairment than we typically do in an interim quarter, which was triggered by our guidance change that we announced in August. We normally do this more extensive analysis during our annual testing in our fourth quarter. Adjusted EBITDA was $148.6 million in the current quarter, compared to $136.9 million in the prior year quarter. Fiscal 2018 quarterly results from continuing operations do not include $24 million of fees that would have been earned, if all 1,932 stores sold to WBA were being supported under the TSA for the entire prior year period. If you take into account these potential fees, pro forma adjusted EBITDA would have been $160.9 in the prior year quarter. Pharmacy segment -- Retail Pharmacy segment revenue for the quarter was $3.9 billion, which was $10 million or 0.2% higher than last year’s second quarter, due to an increase in same-store sales, partially offset by the impact of store closures. Same-store sales increased 1% in the quarter. Front-end same-store sales were effectively flat with a slight decline of 0.1% and pharmacy same-store sales increased by 1.6% with same-store script count up 1.1% on a 30-day adjusted basis. The increase in script count reflects the cycling of the impact of being excluded from certain pharmacy networks in the prior year and improved adherence as a result of our clinical initiatives. As Kermit referenced in his remarks, we expect to expand our preferred network access in calendar 2019. Total Retail Pharmacy segment gross profit dollars in the quarter declined $6.8 million, compared to last year’s second quarter and gross margin was 24 basis points lower, as a percent of revenues. Adjusted EBITDA gross profit was unfavorable to last year’s second quarter by $7.6 million and 26 basis points worse as a percent of revenues. The decline in gross margin was driven by reduction in reimbursement rates that we were unable to offset with generic drug efficiencies and script growth. While we are experiencing generic drug deflation, our generic cost savings in fiscal 2019 have been less than our historical trends, and have not met our expectations. Retail Pharmacy segment SG&A expenses for the quarter were higher by $2.5 million compared to last year’s second quarter while SG&A rate as a percent of revenues was flat. Adjusted EBITDA SG&A was $23.5 million better than the prior year and 66 basis points better as a percent of revenue. Our SG&A reflects the inclusion of $23 million TSA fee income from WBA in the current quarter. Adjusted EBITDA in our Retail Pharmacy segment increased by $16 million versus our prior year actual results that decreased $8 million versus prior year pro forma adjusted EBITDA, which gives effect to the impact of TSA fees. Our Pharmacy Services segment had revenues of $1.6 billion, which was an increase of $69 million or 4.6%, primarily due to an increase in our Medicare Part D membership. As Kermit mentioned earlier, we had a very successful 2018 Medicare Part D bid and continue to see strong enrollments this year. We are now covering over 575,000 lives and expect to grow covered lives throughout the remainder of the year as we add enrollments through the course of calendar 2018. Adjusted EBITDA for the Pharmacy Services segment of $45 million was $4.3 million lower than last year’s second quarter adjusted EBITDA of $49.3 million. The operating results for the quarter were impacted by margin compression in our commercial business and other operating investments as we invest for current year and future growth. Our cash flow statement for the quarter shows a net use of cash from operating activities of $284 million, which was driven mostly by working capital timing. More specifically, we had higher receivables resulting primarily from a build in our CMS receivable at Envision, and increased receivables from several retail segment payers as well as a typical seasonal inventory build, and various other working capital timing differences. We expect our cash flow from operations to improve in the second half of the year as these working capital timing items turn around. Last year’s cash flow statement was positively impacted by the $325 million merger termination fee received from WBA. Net cash used in investing activities for the quarter was $45.6 million versus $34.7 million last year. During the second quarter, we remodeled 33 stores, and spent $6.9 million on file buys. At the end of the quarter, we operated 1,726 wellness stores within our continuing operations. And by the end of the fiscal year, our wellness stores are expected to make up over 70% of the store base. We continue to be pleased with the performance of our wellness stores. For the second quarter, front-end same-store sales in our wellness stores that have been remodeled in the past 24 months were approximately 93 basis points, higher than our non-wellness stores, and same-store script growth in these stores was 130 basis points higher. Turning now to our outlook. We are confirming our full-year fiscal 2019 guidance for revenue same-store sales, adjusted EBITDA and capital expenditures which we had previously updated on August 6. We expect revenues to be between $21.7 billion and $22.1 billion for the full-year and same store sales are expected to range from flat to an increase of 1%. Adjusted EBITDA is expected to be between $540 million and $590 million. Our net loss for the full year is now expected to be between $440 million and $485 million. The increase from our previous net loss guidance is due primarily to the non-cash intangible asset impairment charge that we recorded this quarter. Adjusted net income or loss per share is now expected to be in a range between a loss of $0.03 per share to income of $0.01 per share. Before I turn the call back over to John, I want to touch upon a couple of changes that we made to our definitions of adjusted EBITDA and adjusted net income. We have historically included changes in deferred revenue related to our wellness+ loyalty program as a reconciling item from net income to adjusted EBITDA. Going forward, we have elected to no longer include this item as a reconciling item. The impact of this change has relatively minor impact on our annual adjusted EBITDA, but does sometimes have modest impact to the quarters due to the timing of how the rewards under the program are earned and used by our customers during the loyalty program year. The change we’ve made to adjusted net income is to include all amortization expense as a reconciling item from net income, instead of just including amortization expense related to Envision. All periods presented in our release have been revised to conform to this revised presentation. And with that, let me now turn it back over to John to wrap up our prepared comments. John?

Thanks, Darren. Before we begin taking questions, I’d like to thank our Rite Aid team for all the great work they’re doing. We’ve made some important progress during the first half of the year by transforming our loyalty program, converting additional stores to the wellness format, expanding our Pharmacy Service offerings and executing the TSA. And as we’ve accelerated our strategy in all these areas, our team has done an outstanding job of staying focused on delivering a great experience to our customers. In fact, just like the first quarter, our overall customer satisfaction rating reached the new all-time high in the second quarter. I think that says a lot about the extraordinary team we have here at Rite Aid and gives us yet another reason to have full confidence in our strategy to grow our business heading forward. That concludes our prepared remarks for the call. We will now open the phone lines for your questions.

[Operator Instructions] Your first question comes from the line of John Heinbockel from Guggenheim Securities. Please go ahead. Your line is open.

Thanks. So, John, let me start with -- I think in some of your past long-term projections, you guys had thought that the PBM could grow in the teens, long-term. Do you still think that given where we sit today? And how much of that would be driven by Med D growth off of the 600,000 numbers?

So, we still believe that firmly today. I think if we look at where we are with Envision, there is no question that some of the strategic activity and M&A stuff that we’ve been attempting to do here at Rite Aid has had some impact on this business over the last couple of years. I think, we had, John, actually a pretty decent commercial selling season. We had a legacy, a larger legacy customer that had a different form of agreement than probably what we have with all of our other customers. And so, it was a legacy issue that we’ve kind of worked on here a little bit, but ultimately we kind of landed where we landed. So, I think we’ve really been battling through some temporary headwinds on the commercial side. Our transparent business -- our transparent offering resonates in the marketplace. There is a ton of interest in it. And I think as we get some of the noise here kind of past us, we’re really excited about the growth opportunities of Envision. Medicare Part D is an important part of the business. We plan to continue to invest there and to focus on growing that business. But there is a lot of opportunity for us on the commercial side as well.

Do you think, looking out 3 years, Med D lives getting to a 1 million? Is that sort of a slam dunk or a stretch goal?

I think, it’s had some rapid growth here. But, it’s a very competitive marketplace. It’s an annual bid process. We have to win every year or be very competitive in the bid every year to grow. And we’ve got some pretty substantial folks that we’re competing against in that space. So, I’m not going to give you a long-term projection for the lives there. But, we like where we are in space. We’re making good progress here. I think, again, we have a product that resonates. And so, I do think we can grow quite a bit here over the next few years in the Part D space.

And then, just lastly, we haven’t heard a lot about wellness+, kind of where that sits and how that’s progressing? So, maybe just quick update, when you look at growth in members, growth in gold, silver, their spending patterns. Is that the growth in all -- have we seen a moderation or is there a potential for reacceleration?

I think, I’ll just -- I’ll give you an overall comment and Bryan got some data there. But, I think Bonus Cash has actually gotten some good traction in the marketplace. Enrollment has picked up since we got Bonus Cash out there. So, I think we’re making some progress with the program. I really think there is a great opportunity to continue to develop and accelerate the spending over time. So, I think we’re in a pretty good place with it right now. I mean, Bryan…

Yes. John, it’s Bryan here. I agree with what John said. It’s about 7% of our total cardholder base currently that accounts for about 25% of our total funded sales. And the great news is that we’re at about 96% retention rate on our gold customers. So, it’s a very sticky group for us.

Your next question comes from the line of Charles Rhyee from Cowen. Please go ahead. Your line is open.

Hi. It’s James on for Charles. About 70% of your stores are expected to be wellness stores by the end of the year. I know in the past, it’s been said that not all non-wellness stores will become wellness stores. So, how much of the remaining 70 -- I’m sorry remaining 30% non-wellness stores you expect to transition to wellness format? Also, you’ve stated that older wellness stores will be refreshed to some of the newer formats. So, about how much of the current wellness stores will be getting this makeover? And maybe, can you help us quantify the difference in terms of performance between newer and older wellness stores in terms of sales or profitability?

Yes. This is Darren. I’m not sure we necessarily have a specific number -- or where the 70% will go? There certainly is a group of those stores that may not end up being wellness stores. Our process really is to continue to kind of take those kinds of stores and probably relocate them to a new location. And then, they become wellness stores. So, I would say, there would be a lot of that kind of activity in that remaining 30%. I don’t know if you have...

Yes. I mean, I guess, the way I think about it is we’re 70% of the way there. There’s still a good chunk of stores to renovate that we have to work with here for the next couple years. And as Darren mentioned, we have some relocation opportunities in this group as well. So, we’re working -- as we have been and continue to do, we’re working those real estate locations to see what we can do to get to the right place in the market. We even have some opportunities and probably relocate a few of those original wellness stores as we look at the portfolio of stores also. So, we’ve got some great places to invest in the store base, at least for the next few years. It should help us continue to drive some good growth here. And we’re seeing a pretty good return, I think, on the refreshes. Some of those early wellness stores, they had some of the merchandising concepts and things in them. But, it’s really evolved quite a bit since then. So, when you think about the cadence of this thing, we have a good group of stores that are now 7, 8 years into the wellness program that we can go back to at this point. So, there’s plenty of good spots here to invest -- continue to invest capital into the store base.

And Jim, this is Matt. I think on your question on performance, if you go out to the slides we put out on a page 10, we’ve got some data on how the stores have done from a front-end sales and script count perspective. But they both -- the wellness stores have outperformed the rest of the chain by roughly 100 basis points in both front-end and script count. And I would say from an ROI perspective, they are over time generating the returns that we would expect in order to justify the investment.

But the reinvestment gets another pretty good [part] [ph].

It does. And the good news is, the reinvestment is kind of a fresh-up type of capital spend as opposed to full [indiscernible] model.

And the current generic bid activity, current expectation, the generic drug market for rest of the year led to $80 million downward revision to adjusted EBITDA in early August. Can you elaborate on what’s changed in the generic market relative to your previous expectations that resulted in this revision? And what steps are you taking to make sure your expectations in the future are more in line with the market?

That’s -- the second half of that question is a great question, actually. So, yes, I think and probably Kermit and Darren can kind of jump in here. But clearly, we have to estimate what we think we can achieve in savings as we’re negotiating our third-party contracts on the pharmacy side. So, we have contracts that are as long as 3 years into the future. So, we’re constantly kind of looking at the generic drug market, trying to understand what the potential savings are there, they can help us digest the reimbursement rate pressures that will occur as we enter into those longer term contracts. So, in this particular instance here, looking at our historical trends, I think based on information that we had available to us, as we built our plan for this current year, we had an expectation that generic savings would be more consistent with what we’ve seen over the last couple of years. As we came through our bid here in the second quarter and it’s a pretty substantial bid for us, we just weren’t at that level of savings that we expected. So, that’s really what drove the change in our guidance. We’re working carefully with our purchasing partner, trying to get the best information they can, in terms of the marketplace. Our team here, because we used to buy our drugs directly in the marketplace ourselves, we have a team here that has remained very connected to the marketplace. So, I felt like we had pretty good information there. But clearly, we didn’t get that right. So, to your point, we’re trying to make sure we’re driving the best information we can from the marketplace. But it’s just not always clear to us as we build these plans how a manufacturer will necessarily behave in the coming year. That’s the challenge that we have. Do you guys want to add?

Yes. The only thing I would add is, I mean, we certainly did have savings, and so we saw generic deflation. It just wasn’t as significant as it has been in the last couple of years.

And the only thing I would add is that a lot of kinds of profitability on these generics will depend on how these new generics come to market, the number of manufacturers that actually come to market with these products. We don’t always have that exact information, and those things can change.

And I think the number of manufacturers, and this is part of our issue, on existing drugs can change. So, we can enter into a year where there’s several manufacturers for a drug. But if a large manufacturer rationalizes their drug portfolio or takes other actions like that, or there’s disruption on the regulatory side of drugs, that can cause the cost not to land in line with our expectations.

Okay. And just a follow-up to the question on generics. Theoretically, how much of that $80 million could have been offset with this WBAD option? What kind of savings would that…

So, what we’ve said on the WBAD option is that as we did our work back at the time of the asset sale approximately a year ago that we did identify value in a clean room process associated with the WBAD option. Where we are right now is we’re in the process right now of evaluating that option again today as per the agreement. So, we’re in a process, a pretty robust process, looking at a number of different options in terms of how we go forward, including the WBAD option, and we’ll have further comments on that as that process comes to a conclusion. Kermit, I mean, do you have anything?

I think, you covered that, John. We’re in evaluation process, and we expect to complete it this fall.

Your next question comes from the line of Robert Jones from Goldman Sachs. Please go ahead. Your line is open.

This is Kevin on for Bob this morning. So, you guys said you noted some early progress in getting preferred access to Part D networks in 2020? Could you guys maybe just specify, have your conversations been going out with the national plans or have they been more focused regionally? And then, how does the margin profile on these plans compared to your existing book?

So, Kevin, I would tell you that we’re focused on both, both national plans as well as a regional plan. There’s not as much conversation that takes place on these regional plans, but these are actually very good plans for us. And we’ll be in two preferred regional plans, one within our Express Scripts book of business and one within our Prime Therapeutics book of business. So, we’re continuing to work with our PBM partners and getting into these networks. Many of these Part D preferred networks have multiple year contracts and that’s why we’re really focused on the 2020. And the margin is, it depends on the network. We’re looking at every one of these networks and we’re strategically determining which one we should and shouldn’t to get in because we’ll have to reprice our business in many cases. So, we’re working to protect our margin. We’ve continued to -- we’ve continued to stabilize our reimbursement rates, we’ll continue to do that. We’ve gotten multiyear contracts with our commercial providers. We’ve got generic effective rate protection in 80% of those networks, so we have better predictability of our rate. So, we’re looking at our complete book of business, both commercial and Part D business to try to maximize the profitability of our entire network.

Great. Thanks. And then, I just have one quick housekeeping question. So, you guys noted you’re expecting a push out the revolver maturity into I think 2023. Do you guys have any early idea on what interest rate this might get refinanced at?

I think it’s -- I mean it would probably be somewhat comparable to our existing rate.

Your next question comes from the line of Ross Muken from Evercore ISI. Please go ahead. Your line is open.

Hey, guys. It’s Suzie Yoon on for Ross. I just had two quick questions around EnvisionRx and then maybe another one on the wellness format. The vertical deals of two of your largest peers seems to be getting closer to closing. Is there anything that you’re starting to see maybe as a reaction to these deals perhaps around the selling season on your pipeline? And then, another one on the wellness store format. It’s nice to see comp results up at these stores. What do you think are some of the biggest changes within these stores that’s driving this uptake in productivity?

So, in terms of the last selling season, I think we are a great option for a lot of regional health plans. And we continue to have interest on that front. And we have growing relationships with a couple of really important customers today in that space as well. And I do think some of the vertical integration that’s going on will cost some additional interest as those transactions come to fruition. So, it’s a pretty exciting opportunity for us. And we’re focused on trying to be out in that marketplace and making people aware that we are kind of an independent option for them if that’s of a concern to them. So, I think that’s a pretty exciting opportunity for us. The second -- what was the second part of the Envision question?

What do you think are some of the biggest changes within these stores that’s driving the performance improvement?

On the wellness stores, yes. It’s a pretty dramatic makeover of the store to move to the wellness format. There is a number of things that we do, both from a merchandising perspective, there is some staffing changes. I don’t Bryan, do you want to touch on some of that?

Yes. I mean, expanded assortment for merchandising, full new layout of the store, the center. The pharmacy is repositioned in the store, new Wellness Ambassador position, staffing model in the store. So, just it’s a complete new redesign of the old format.

I think a lot of the merchandising does a couple of things. In many instances, you can kind of touch and work with product. It’s organized differently and that it’s I think easier to shop. We’ve done some really important things in over-the-counter categories, cosmetics and other things just to make the store easier for our customers to work with. So, it’s a pretty different model in terms of what we deliver in the store; consultation rooms that are really thoughtfully put into these stores, so we can provide additional pharmacy services, including immunizations. So, it’s a pretty substantial makeover of the store.

Your next question comes from the line of Glen Santangelo from Deutsche Bank. Please go ahead. Your line is open.

Yes. Thanks and good morning. Hey, John. I just want to follow up on a couple of points you’ve already discussed. But, I had some follow-up questions. First was on the comments you were making about what changed in the generic market in 2Q. Are you making the case that the biggest part of the delta was driven by generic deflation that maybe wasn’t as high as maybe what you thought? I mean could you elaborate on that a little bit more?

That’s exactly what it is. That’s exactly what happened. We have gotten pretty substantial generic savings every year for as far back as I can remember. So, that’s really what we have to do in order to offset the reimbursement rate pressure that we have every year. And that happens for a couple of different reasons. I mean, one is, as drugs mature, generally more and more manufacturers get into them. They can come out at single and dual source, but then over time, you’re getting more and more manufacturers, which tends to drive cost down over time on those drugs. What we’re seeing right now in the marketplace is in some instances some drugs may have too many manufacturers and there’s not enough profitability in them and some manufacturers will back away. And so, the cost on that individual drug may go up instead of down or not go down at all. And so, those kinds of things kind of offset some of the savings we get in other places. So, net-net, as Darren mentioned, overall, we will have generic drug deflation for the year but not at the level we expect it to offset what we have in terms of reimbursement rate pressure. Does that make sense?

Yes, it does. Could you maybe put some numbers around what you’re expecting in terms of branded inflation and generic deflation, and how that’s impacting your gross margins?

We generally don’t do that for competitive reasons. I would just say, on the brand inflation side, that slowed down quite substantially over the last couple of years. This year is probably, just off the top of my head, close to what we were last year, but those -- but it’s down a lot from kind of traditional brand inflation levels. I would say, on the generic side, it’s quite a bit less of the savings that we’re getting this year. You can see from the magnitude of the guidance change, it’s a pretty big number.

Maybe if I’d just ask one last follow-up on Envision. Could you maybe discuss the strategic value of Envision and the impact it’s having on your store operations? I mean, when you look within Envision sort of covered lives, are you seeing a material uptick in Ride Aid scripts within that population? Because obviously there has been a lot of noise around the administration’s blueprint, the concern around rebates. And in your prepared remarks, you even suggested you’re ramping up your efforts to evaluate your strategy a little bit more. So, if you could just sort of elaborate a little bit how that fits into the whole pie, and are these businesses maybe as synergistic as you’re originally thought when you bought it?

Yes. So, I mean, I think there were a couple of things about our acquisition of them. One is, it does make us a little less dependent on the retail drug business. It diversifies the business a little bit. Second thing is, yes, particularly in the Medicare Part D space, it gives us access to a preferred plan that we’re in. And that’s important to us. And that has allowed us to drive some script count to our stores. But realistically, Envision is not as big as big 3, right? It is subscale to those other assets. So, it has some synergistic value to it and drives some script count into our stores, and we’ve made some progress there. And I think, our opportunity is as we continue to grow it to get more of that kind of going forward. So, that’s really -- to your point, how they -- how it kind of fits together with what we’re doing today.

I’d just add that this Medicare Part D customer is our most valuable customer. And as you know, we have not been in preferred networks around Medicare Part D. One of our strategic initiatives is to get into more of those Part D networks. We have a significantly higher market share within our Envision Medicare Part D lives versus other of our PBM competitors. So, the Envision network and our role that we play in it, network and the market share that we’re gaining within the Envision network is important to us.

Your next question comes from the line of William Reuter from Bank of America. Please go ahead. Your line is open.

Good morning. It’s a little bit of a follow-up on the last question. But there’s obviously press from time-to-time that suggests that the PBM could be separated from the rest of the retail business. I know that you’ve felt that they were relatively synergistic. But, I guess, would you be open to discussing, if interested parties reached out to you?

I think we really like EnvisionRx. Obviously, it’s a great business. It’s a very unique asset today in the marketplace, and that it is a fully capable, freestanding PBM. It has its own adjudication platform. It has its own formula. It provides its own clinical services. It has a specialty pharmacy. It has a makeover facility. So, it’s a pretty unique animal in the marketplace today. And we’ve been able, I think to, as Kermit said, use those capabilities to help us on a synergistic basis with our business. So, we think it’s a great company. We think it has a ton of growth potential. And we think just some of the noise coming from here has probably not helped them over the last couple years. But, we really believe in it. Having said all of that, we’re always going to do what makes the most sense to create value for our shareholders. That’s our view of the world.

And then, just one follow-up. Obviously, brick and mortar has been the center of the pharmacy industry for such an extended period of time. I know that there are articles from time-to-time to talk about how e-commerce might be changing this mail order. I guess, is there anything you can provide in terms of some commentary about big picture. How you think these different sub-segments of kind of the pharmacy retail network is going to evolve over the next 3 to 4 years?

I think, as Kermit mentioned it, digital interaction is increasing quite a bit. The tools that we can bring to bear and to provide better clinical action, clinical interaction and appearance through these tools I think are going to be really important. But, the pharmacist in our store kind of remains the center of the universe, if you will. And I think a lot of these things will be supplemental to that. Mail order, it’s a little bit different about pharmacy and I’m not saying we’re not going to be impacted, I’m sure we will be. So, don’t take this as -- we don’t think it’s an opportunity or an issue. But mail order is pretty mature in our industry. It’s got 18%, 19% share or something like that today, but it’s been around for forever. And there are issues around ownership of lives and the services can be provided to those that also impact the way that e-commerce will come to bear in our marketplace. But from our viewpoint that interaction with the pharmacist is a differentiator in our model, that access and availability and what we can do with our pharmacy team as it relates to the relationship that we have with those customers. So, we think that’s an important cornerstone of what we’re doing as we go forward. Kermit, I don’t know if you want to…

The only thing I would add, this pharmacy customer is an omnichannel customer. And our goal is to meet that customer’s needs wherever, whenever, however they would want to do that. Whether it’s our convenient location, we drive through, whether it’s using mobile, or our online app, whether it’s home delivery, or mailing, when we have all of those capabilities and, if by chance, you need clinical services, our new wellness stores are built with consultation room to provide those services. So, we’re going to meet that customer where, when and how she wants us to provide service.

Your next question comes from the line of George Hill from RBC. Please go ahead. Your line is open.

Hey. Good morning, guys. And thanks for taking the question. I guess, John, I would ask, kind of now that we’re past the Albertsons process, and we touched on the PBM a little bit, I guess, what are you thinking as the big strategic opportunities for the Company over the next handful of years to create shareholder value? We know that vertical integration is going on with some of the other competitors in the space as a way to move channels here John. But, I guess as you think about the growth drivers strategically in the business over the next, call it, 2 to 4 years, I guess, kind of talk about the big opportunities that the company can pursue?

Well, and I think we’ve touched on a lot of them here in the content of what we’ve gone through. But, I think that some of this vertical integration is going to -- is actually going to help us a little bit here. I think I’ve said this before, but I think there’s a growing recognition, and a couple of these vertical integrations are really going to bring it to bear in the marketplace. But I think there’s a growing recognition of what we’re doing with retail pharmacy is critically important to outcomes with patients. And, in terms of probably building some relationships here where we can really work with some partners to help them realize the kind of values that are being achieved through these vertical integrations, probably without getting that -- without probably getting that joined at the hip is a real opportunity for us. It’s clear, there’s hundreds of billions of dollars of avoidable costs that’s incurred because people aren’t either compliant with medication adherence or because things happen after treatment that cause additional cost. So, we’re in a great position to work with an aging demographic to really help drive down overall health care costs over the next couple of years. And what we have to focus on is bringing the resources that we have in our portfolio here and additional capabilities that we’re working on to bear to drive down those costs. If we can do that, I think we can really have an impact on the quality of life of our patients and we can drive a lot of value for our shareholders.

Okay. I appreciate that. Maybe a quick follow-up on Envision. In the last reporting cycle, the two of the larger publicly-trade PBMs kind of detailed their rebate retention levels. I know Envision has much more of a pass-through process. But, would we be safe in assuming that you guys have a similar level or even a lower level of kind of rebate retention earnings risk, should we get a change in the lot of LMB compared to the large PBMs?

Yes.

Our final question comes from the line of Carla Casella from JP Morgan. Please go ahead. Your line is open.

Hi. Just a few follow-ups. On the DCs that you are selling to Walgreens, you mentioned that you sold one. What was the timing and the amount of proceeds for that?

It was after the end of the quarter. I think, it was September -- beginning of September, something like that. And it was a $60 million.

Okay. And then, the other two to should happen -- would that be cemented this year, or is it another year or two?

Well, it’s really kind of controlled as to when WBA wants to purchase them, but they must purchase them by the end of the TSA period. So, that…

And what…

So, that could go out. I mean, right now, the TSA I guess ends before any kind of extensions in October of 2019.

Okay. So, the TSA ends October 2019 and then by then not -- when the other DCs would need to be sold?

Correct. But there are -- they could exercise an extension under the TSA for two to six-month period.

Okay. Right. And then, you commented that you’ll be in one national network and two regional preferred networks in 2019. Are you currently -- aren’t you currently in two national networks? And did you lose one or did one switch to regional or something like that?

No. The only national network that we’re in, in this calendar is our Envision Medicare Part D preferred -- as a preferred. Now, we’re in all open Medicare Part D networks. So, we participate in all networks, Medicare Part D, just one preferred network. And that’s our EnvisionRx Medicare Part D network.

Okay, great. And then, the CMS receivable that you talked, which was a big adjustment here, working capital this quarter. Why didn’t you finance it like you normally do, and is there a sort of timing issue there or we should see a working capital reverse?

I think, Carla, we’ve talked this last call. We had historically in past years used reinsurance as a tool to finance a portion of that. It comes at a cost as well. For this year, we’re not using the reinsurance. So, it’s kind of a onetime working capital use, if we opt to not to use reinsurance in future years, it won’t have a significant of an impact.

Okay. And then on the PBM write-down, have you said what the value of it is now in the books?

We have not said what the value is now on the books. But, we can. I mean, it’s a $1,850 million I think is what the value is on the books.

Okay. That’s it. Thank you.

Okay. Well, I think that wraps up. I misquoted a number here. I think I gave the mail order script count instead of the market share. So, the mail order market share is 4.5% or so. So, just a correction there, but otherwise, I think we’ve done for today. So, I think that wraps up today’s call. Thanks everybody for joining us.

This concludes today’s conference call. Thank you for your participation. And you may now disconnect.