Medicaid Expansion and New Specialty Therapy Launches to Drive CVS’ Growth

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CVS Health (NYSE:CVS), the second largest drugstore chain in the U.S., is scheduled to report its Q4 2014 and full year 2014 earnings on Tuesday, February 10th. So far this year, it has consistently been able to meet its growth expectations, primarily driven by its pharmacy services business. Overall, it registered a top line growth of about 9% in the nine months ended September 30, 2014 compared to the same period in 2013. While operating profit also grew at a similar pace, one-time losses incurred in the third quarter kept the bottom line down at the same level as in 2013. At its annual analyst day held earlier in December 2014, CVS reaffirmed its previously announced 2014 guidance and provided its outlook for fiscal 2015.

We expect the company’s growth momentum to continue going forward, as it benefits in particular from the Medicaid expansion and growth in its specialty pharmacy business. We have a price estimate of $80 for CVS Health, which is at a discount of approximately 20% to the current market price. Below, we elaborate on some of the factors that we believe will fuel CVS’ growth going forward.

View our detailed analysis for CVS Caremark

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An Increase in Medicaid Enrollees To Drive Growth

In the nine months ended September 30, 2014, the number of pharmacy network claims that CVS processed have increased by 14.1 million claims, a 2.3% increase year-over-year (more than half of this came from Q3’15). CVS expects Medicaid lives (number of people covered under Medicaid) to grow at a CAGR of 3.5% between 2013 and 2019. Most of this growth is expected to arise from the managed medicare enrollments (enrollments in the traditional fee-for-service medicaid are expected to remain flat), in which CVS is the market leader with a 19% share. [1]  In the first three quarters of this year, the increase in the pharmacy network claim volume was primarily due to net new business and growth in Managed Medicaid. Going forward, we expect this trend to continue to contribute to the company’s PBM business growth.

Rapid Uptake of New Specialty Therapies

In Q3 2014, the company’s specialty pharmacy revenues were up more than 50% year over year, partially driven by the launch of a new hepatitis C drug, Sovaldi. [2] Later in October, another drug was introduced in the same disease area named Harvoni. Its uptake in the weeks following launch is approximately 2.5 times that of Sovaldi, according to an analysis by the CVS Health Research Institute. [3] In addition, the analysis shows that there has been minimal reduction in Sovaldi use following the launch of Harvoni, suggesting an expansion in the pool of patients being treated, rather than Harvoni being used as a substitute for Sovaldi. Sovaldi costs $84,000 for a 12-week course of treatment and the more recently launched Harvoni is even more expensive, listing for $94,500 for 12 weeks of treatment. [4]

The high price of these new hepatitis C treatments and the expanding pool of patients receiving treatment signal a growing and costly trend in treating chronic medical conditions with specialty medicines. Among CVS’ clients, specialty therapies now represent about 22.5% of total drug spending and the company projects it to grow to as much as 50% by 2018. [5] The company has an approximate 15% market share in specialty drugs and is likely to benefit from this expanding market going forward.

Store Sales to Benefit From This Year’s Severe Flu Season

An average 4.0% of Americans reported being sick with flu on any given day in December 2014, according to the Gallup-Healthways Well-Being Index, [6] which surveys each day whether a person was sick with the flu or a cold on the previous day. This is the highest monthly average since Gallup began measuring daily incidence of colds in 2008. While flu incidence usually peaks in January and February, this year’s peak was registered in the second half of December, driving up the total incidence in Q4 2014.

Source [7]

Also, the U.S. CDC (Centers for Disease Control and Prevention), which reports the number of influenza infections reported by doctors and hospitals, not only reports a similar trend, but also a significant increase in incidence compared to previous years. As higher incidence of flu leads to more physician visits and prescriptions written, pharmacy store sales and the number of flu shots administered are likely to be positively impacted this quarter, across the industry.

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Notes:
  1. CVS Dec’14 Analyst Day Presentation, CVS, December 16, 2014 []
  2. CVS Q3 2014 Earnings Presentation, CVS Investor Resources, November 4, 2014 []
  3. A CVS Health Research Institute Report, CVS Newsroom, December 18, 2014 []
  4. Abbvie Expects $3B In Hepatitis C Drug Sales And 40% Of Insured Customers, Forbes, January 30, 2015 []
  5. CVS Caremark’s CEO Discusses Q3 2013 Results – Earnings Call Transcript, Seeking Alpha, November 5, 2013 []
  6. U.S. Flu and Cold Reports Among Highest Since 2008, Gallup, January 8, 2015 []
  7. CDC Weekly Influenza Surveillance Report, CDC []