CVS Reports A Strong Q3’14 Backed By Strong Performance In Both PBM & Retail
CVS Health (NYSE:CVS) reported yet another quarter of strong earnings, with every key performance measure meeting or exceeding company expectation in Q3 2014. At $35 billion, net revenue for the company increased 9.7% annually and 1.2% sequentially, driven by strong growth in the Pharmacy Services segment (which CVS refers to as PBM) and better than expected growth in the retail business. PBM net revenue increased 15.7% sequentially, driven by net new business, specialty pharmacy growth, branded drug price increases and favorable product mix. Sales in the retail segment were up 3.1%, driven primarily by product mix, volumes and the delay in certain generic launches (which were expected to released in Q3 2014), offset by a higher generic dispensing rate (increased by 1.8% y ear over year) and the absence of tobacco revenue (tobacco exit was completed at the beginning of September).
As the lower margin PBM segment (PBM margins declined by 0.4% in the quarter) grew faster than the retail segment, CVS witnessed a 40 basic points (to 18.5%) decline in its overall margin. PBM operating profit increased 7.3% on account of strong growth in the specialty pharmacy and favorable purchasing economies, partially offset by pricing pressure. Retail operating profit grew 4.3%, led by higher prescription volumes and an improved pharmacy margin rate. Nevertheless, CVS’ adjusted earnings per share (EPS) increased by 9%, to $1.15.
Given CVS’ strong performance in the first three quarter of fiscal 2014 and a favorable outlook for Q4 2014, the company has narrowed its adjusted EPS guidance to a range of $4.47 to $4.50, compared to its previous guidance between $4.43 to $4.51. Additionally, it has increased its free cash flow target for 2014 by approximately $300 million, to $5.7 billion to $6 billion, on account of the favorable tax effect of the debt extinguishment.
CVS remains committed to its goal to create a national primary care platform that provides integrated high quality care that is convenient, accessible and affordable. The company reported that its gross wins for fiscal 2015 currently stand at $6.4 billion, up $1 billion from its last update, with net new business standing at $3.1 billion (up 500 million). For the 2015 renewals, it claims to have completed more than 80% of the $26 billion in business up for renewal, with a retention rate of just over 96%.
Our price estimate of $77 for CVS Caremark is approximately 10% lower than the current market price. We are in the process of updating our model for the company.
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Speciatly Drugs To Drive Growth In PBM, CVS Is Confident Of Gaining Additional Market Share In Specialty
Strong performance in the specialty sector yet again drove CVS’ growth in the PBM business. Specialty revenue in the quarter was up 53% (year on year), driven by new business, the high cost of the Sovaldi drug (a new hepatitis C drug) and the addition of the Coram infusion business. The segment also benefited from the implementation of Specialty Connect, which has transferred revenues out of the retail pharmacy segment and into the PBM segment ,as PBM took over the dispensing of nearly all specialty prescriptions filled by CVS Health. The shift improved PBM’s top line growth by approximately 115 basis points.
CVS operates approximately 30 retail specialty pharmacy stores (under the CarePlusCVS/pharmacy name) and 12 specialty mail order pharmacies located in 22 states in the U.S., Puerto Rico and the District of Columbia. At present 60% of specialty revenue in CVS’ PBM segment are dispensed through specialty pharmacy. The company has an approximate 15% market share in specialty drugs. In Q3 2014, numerous clients signed up for CVS’ site-of-service management product that’s enabled by the acquisition of Coram. Additionally, CVS continues to see client interest in adoption of its medical pharmacy management offering enabled by the acquisition of NovoLogix.
CVS continues to differentiate its offerings to provide a high level of clinical support to patients, and is confident of increasing its share in the market in the future. It believes that its differentiated approach to specialty pharmaceuticals will drive lower overall costs while improving health and providing value for both payers and patients.
A new report released by CVS in November 2013 projects that specialty drug spending will more than quadruple by 2020, crossing $400 billion a year. Among CVS’ clients, specialty now represents about 22.5% of total drug spending and the company projects the same to grow to as much as 50% by 2018. [1]
CVS Increased Its Pharmacy Market Share In Q3’14
CVS claims that it managed to increase its pharmacy market share by 40 basis points (year on year) on a 30 day equivalent basis in Q3 2014. Its pharmacy store same-store-sales grew 4.8% while pharmacy same store scripts increased 5.1% annually, negatively impacted by the recent generic introduction as well as the implementation of Specialty Connect which transfers specialty scripts to the PBM segment (negative impact of 190 basis points each). CVS claims that its did not see any discernible impact on its pharmacy business from its decision to exit the tobacco category.
In 2014, CVS is the preferred provider in five of the top ten Med D plans (based on lives). For 2015, the company has contracted with about 20 regional and national Part D plans to be their preferred provider. CVS claims to have taken a more disciplined approach to participate in these networks.
Revised 2014 Guidance
– Adjusted EPS of $4.47 to $4.50.
– GAAP diluted EPS from continuing operation in the range of $3.93 to $3.96.
Q4 2014 Outlook
– Retail segment revenues to be up 0.25% to 1.75% annually. Adjusted script comps to increase in the range of 3.5% to 4.5%, while the total same-store-sales in the range of down 1% to up 0.5%.
– PBM revenues to increase 16.75% to 18.25% annually. Adjusted claims to be between 270 million and 275 million.
– Retail operating profit to increase 4.5% to 6.25%, while the PBM operating profit is expected to be flat to up 2%.
– Net interest expense between $125 million to $135 million.
– Tax rate of 40%.
– Adjusted EPS in the range of $1.18 to $1.21, up 6% to 8.75% annually.
– GAAP diluted EPS from continuing operations in the range of $1.12 to $1.15.
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- CVS Caremark’s CEO Discusses Q1 2014 Results – Earnings Call Transcript, Seeking Alpha, May 2, 2014 [↩]