If you’re a fan of epic boxing matches like Ali-Frazier or Hagler-Hearns, here’s a mano a mano bout that might appeal to you: CVS Health (cvs) vs. Walgreens Boots Alliance (wba), in what promises to be a drawn-out brawl for American consumer loyalties.
In one corner, CVS, with almost 10,000 retail stores. In this heavyweight’s corner are recent acquisitions like pharmacy benefit managers (PBMs) Caremark and Omnicare. In the other corner, fast-growing contender Walgreens, with more than 8,100 stores and an in-progress deal to acquire competitor Rite Aid (rad).
Together, the two chains already boast at least 50% combined market share in 70 of the top 100 U.S. metro areas, according to Barclays Research. Add Rite Aid’s 4,600 stores, and that share will soar even higher. “These two big guys will be No. 1 and No. 2 for all of time,” says Robert Willoughby, managing director for Credit Suisse. But as the two giants battle for a hefty prize—the wallets of 75 million baby boomers, whose spending on prescriptions and health care should steadily multiply—money managers are wondering whether and for how long investors will share in the wealth.
The two companies are working from strikingly different playbooks. CVS has focused on scooping up PBMs, which administer prescription-drug plans for health insurers and employers. The company now fills more than 20% of retail prescriptions in the U.S. The theory: Drive more business to the back of the store—the pharmacies that account for two-thirds of CVS’s revenue—and you’ll have a captive audience for whatever you want to sell out front. “They have the unique combination of being both a pharmacy benefit manager and a retail drugstore,” says Joe Agnese, senior industry analyst for S&P Global Market Intelligence.
Walgreens is equally dependent on its pharmacy business, with 66% of its revenue coming from the back of the store. The chain has also made a big commitment to health services like in-store clinics, of which Walgreens now has over 400 nationwide. But the company has largely stayed out of the PBM game. Its real talent, investors say: taking a buzz saw to costs as it expands through acquisitions. The Rite Aid purchase, which is expected to be completed later this year, should allow the chain even more buying clout and leverage with retail suppliers, although Walgreens will probably have to divest hundreds of stores to avoid antitrust concerns. John Ransom, managing director at Raymond James and a fan of both CVS and Walgreens, calls the strategy “a long march of improving store margins, and growing through initiatives like merchandising and marketing partnerships.”
Ransom and other managers see drugstore chains as relatively safe ways to play the increase in health care spending. Their stocks tend to be stable and don’t demonstrate much volatility, especially compared with purely pharmaceutical plays. Pharma and biotech stocks are often buffeted by factors like failed drug trials and expiring patents. Corner drugstores? Not so much. “You don’t have to care what drug gets approved,” says Willoughby. “You just know that drugs are going to be taken.”
Not to say that there aren’t worrisome headwinds. There’s no real need for consumers to be picking up front-of-store goods at drugstores, for example, when they can just have them sent to their homes by Amazon Prime (amzn). And other outlets, from big-box retailers like Walmart (wmt) to grocers like Kroger (kr), are more than happy to fill prescriptions as well. Obamacare and Medicare Part D, meanwhile, have been mixed blessings for drugstores. More people have been obtaining health care and prescription-drug coverage, but drug margins are being squeezed, Agnese explains, as reimbursements are repriced every year by regulators.
Still, the dominant demographic current, of wave after wave of older Americans in need of health care, should make for a steady, income-producing bet. So which big chain is best poised to capitalize? Of the two behemoths, CVS is the one closer to “firing on all cylinders,” says Ransom. Total sales in 2016 are expected to rise an eye-popping 18%, according to S&P Global Market Intelligence, with same-store sales up 3.7%. The stock’s valuation remains reasonable, with its forward price/earnings ratio hovering around 15.
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Walgreens is also expected to have a strong 2016. But its most recent earnings disappointed investors, with a relatively mild cold-and-flu season squeezing profits to $930 million for the quarter, down from more than $2 billion in the year-earlier period. More important, as Walgreens looks to complete the Rite Aid acquisition, analysts are unified in wondering where the chain’s “second leg” of growth is going to come from. “What’s next?” asks Willoughby. “That’s harder for me to see.”
On balance, money managers believe that CVS’s strategy of controlling more levers in the prescription-filling process and using it to drive store traffic has more long-term potential than the cost-management wizardry of Walgreens. The decision, for those who want just one stock: a CVS victory in a 12-round slugfest.
A version of this article appears in the May 1, 2016 issue of Fortune with the headline “The Fight to Dominate Big Pharma(cy).”