Medco Health Solutions (MHS) reported an EPS of 80 cents during the first quarter of fiscal 2011, up 19.4% from the year-ago quarter’s 67 cents. After adjusting for amortization of intangible assets, the company’s EPS came in at 91 cents, beating the Zacks Consensus Estimate of 88 cents and 19.7% higher than the year-ago quarter’s 76 cents.
Medco, the leading pharmacy benefit manager (PBM), recorded an increase of 4.3% in revenues on a year over year basis to $17.0 billion, marginally missing the Zacks Consensus Estimate of $17.1 billion. The increase in revenues was primarily driven by contributions from significant client wins as well as higher prices charged on branded drugs, partially offset by higher volumes of lower-priced generic drugs.
During the quarter, Medco witnessed a 57.5% year-over-year growth in service revenue to $357.8 million based on the acquisition of United BioSource and growth in its client service offerings. Revenues from Medco’s specialty pharmacy segment, Accredo Health Group, increased 14.9% to $3.1 billion primarily due to significant addition of new clients and organic growth across the business.
During the reported quarter, the generic dispensing rate increased 3.4 percentage points to 73.1% compared with the first quarter of 2010. Both the mail-order and retail generic dispensing rates increased 4.5 percentage points to 63.8% and 3.3 percentage points to 74.7%, respectively.
While there was no contribution from new generics during the quarter, the year-over-year rise in the overall generic dispensing rate increased the incremental savings of of the company’s clients and members to approximately $1.1 billion.
For the reported quarter, out of $16.6 billion of net product revenues, retail products accounted for $10.3 billion while mail-order products accounting for the rest. Both retail and mail-order products recorded an increase of 2.6% and 5.2%, respectively, compared with the same period last year.
Total prescription volume (244.3 million) recorded a 2.1% growth compared with the year-ago period, with mail-order volume increasing 1.8% to 27.7 million. Branded mail order prescription volume decreased 9.1% year over year to 10.0 million, while generic mail-order prescription volume increased 9.3% to 17.7 million.
Medco’s gross margin during the quarter increased 20 basis points to 6.3% due to strong generic mail-order prescription volume and growth in service margin. Also changes to the employee postretirement healthcare benefit plan helped expansion of the gross margin. Selling, general and administrative expenses increased 10.4% during the quarter to $387.1 million reflecting higher expenses associated with the acquisition of United BioSource.
Medco exited 2011 with $121.1 million in cash and cash equivalents, down from $853.4 million at the end of December 2010.The company repurchased 13.5 million shares during the quarter for $836.6 million. Moreover, 13.4% reduction in share-count also helped improved the company’s bottom line.The company aims to repurchase shares worth $2 billion during 2011.
Medco is witnessing an impressive selling season with high client retention rates driven by higher generic prescription volumes at mail, growth in Accredo specialty business and Medicare PDP, United BioSource acquisition and new-named business wins. The company’s 2011 client retention rate was 99%.
Outlook
Medco increased its guidance for fiscal 2011. The company expects to record EPS of $4.02-$4.12 (previous range of $3.80-$3.93) representing growth of 13%-16%.
Recommendation
An aging population coupled with the associated escalation in chronic diseases continues to drive demand and add to the rising cost of new drug therapies. As a result, we expect the outlook for the PBM industry to remain positive.
Moreover, increased opportunity for Medco lies in the form of introduction of generics over the next few years. Although the PBM industry remains highly competitive with the presence of players such as CVS Caremark (CVS) and Express Scripts (ESRX) we are encouraged by the company’s client renewals in this quarter.
We are currently Neutral on Medco, which also corresponds to the Zacks #3 Rank (Hold).
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