CVS Health Corporation (CVS) reported fourth-quarter 2014 adjusted earnings per share (EPS) of $1.21, up 8% year over year. The bottom line was, however, in line with the Zacks Consensus Estimate and coincided with the upper end of the company-provided guidance range of $1.18 to $1.21 per share.
The adjustments exclude intangible asset amortization related to acquisition activities in the reported quarter and the same period a year ago. Without the one-time adjustment, reported EPS in the third quarter increased 8.6% to $1.14.
For full year 2014, adjusted EPS (excluding the loss from early extinguishment of debt in 2014 and the legal settlement gain in 2013) increased 13.5% to $4.49, a penny short of the Zacks Consensus Estimate.
Quarter Under Review
Net revenue in the fourth quarter improved a robust 12.9% year over year to $37.05 billion, and steered ahead of the Zacks Consensus Estimate of $36.07 billion. This year-over-year improvement came primarily on the back of balanced growth in both Pharmacy Services and Retail Pharmacy segments.
Full-year 2014 net revenue increased 9.9% to $139.36 billion, ahead of the Zacks Consensus Estimate of $138.40 billion.
The Pharmacy Services segment’s revenues increased 21.7% to $23.9 billion in the quarter. The segment gained from growth in specialty pharmacy business – including the acquisition of Coram – as well as the impact of Specialty Connect and increased volume in pharmacy network claims.
Pharmacy network claims processed during the quarter were up 8.2% to 221.6 million, backed by net new business and growth in Managed Medicaid. Moreover, growth in Maintenance Choice program, partially offset by a decline in traditional mail volumes, brought the Mail Choice claims processed to 21.3 million, up 1.4%.
Revenues from CVS’ Retail Pharmacy improved 2.9% year over year to $17.7 billion. Same-store sales increased 1.6%, while front-end same-store sales declined 7.2% year over year. Front-end same-store sales decline was attributed to softer customer traffic, partially offset by an increase in basket size. According to the company, excluding tobacco and the estimated associated basket sales, front-store same-store sales would have been approximately 800 basis points (bps) higher.
Pharmacy same-store sales increased 5.5% in the reported quarter. Despite generic introductions and implementation of Specialty Connect affecting sales by 150 bps and 190 bps respectively, CVS posted pharmacy same-store sales growth. Moreover, Pharmacy same-store prescription volumes rose 5.3% on a 30-day equivalent basis.
The generic dispensing rate (the proportion of all generic prescriptions to total number of prescriptions dispensed) soared 125 bps to reach 82.1% in the Pharmacy Services segment and increased 140 bps to 82.4% in the Retail Pharmacy segment.
Although gross profit increased 4.7% to $6.6 billion, gross margin contracted 140 bps to 17.9%. Operating profit for the Pharmacy Services inched up 0.9% on the back of increased generic drugs dispensed and favorable purchasing economics. Growth in specialty pharmacy and favorable purchasing economics were more than offset by price compression and the incremental investment in the 2015 welcome season as a result of a successful selling season.
The Retail Pharmacy segment’s operating profit increased 6.5%, positively impacted by increased generic drugs dispensed and favorable purchasing economics, growth of prescription volumes combined with an improved pharmacy margin rate, partially offset by the loss of gross profit from tobacco and the associated basket as well as incremental store operating costs associated with operating more stores. However, total operating margin contracted 54 bps to reach 6.3% due to a 4.6% increase in operating cost.
CVS exited the fiscal with cash and cash equivalents and short-term investments of $2.51 billion, down from $4.18 billion at the end of 2013. Net cash provided by operating activities for the year increased 40.7% to $8.13 billion.
During the fourth quarter, CVS opened 50 retail drugstores and closed 7 existing ones. Further, the company relocated 30 retail drugstores.
As of Dec 31, 2015, CVS operated 7,981 locations, which include 7,822 retail drugstores, 17 onsite pharmacies, 27 retail specialty pharmacy stores, 11 specialty mail order pharmacies, 4 mail service dispensing pharmacies, 86 branches and 6 centers of excellence for infusion and enteral services in 47 states, as well as the District of Columbia, Puerto Rico and Brazil.
Guidance
On exiting 2014, CVS confirmed its earlier-provided guidance for the first quarter and full year 2015. The company still expects the year’s adjusted EPS in the range of $5.05−$5.19. The current Zacks Consensus Estimate of $5.14 falls close to the upper end of the guidance range. Besides, free cash flow guidance is expected to remain in the range to $5.9 to $6.2 billion.
For the first quarter of 2015, the company still expects to report adjusted EPS in the range of $1.06 to $1.09. The current Zacks Consensus Estimate of $1.08 nearly coincides with the upper end of the range.
Our Take
CVS Health posted another decent quarter with in-line earnings and a revenue beat. The Pharmacy Services segment benefited from growth in specialty pharmacy growth in the Specialty Pharmacy business – including the acquisition of Coram, while the Retail Pharmacy segment gained from increased same store sales.
We are upbeat on solid growth in the PBM segment, especially the growth of the Specialty Pharmacy business. Moreover, having generated strong free cash flow in the quarter, the company is confident of achieving its 2015 goals.
CVS continues to benefit from the introduction of generics that pushed profits higher. The 2015 PBM selling season remained strong with gross client wins of $7 billion and net new client business of $3.6 billion.
Currently, the stock carries a Zacks Rank #2 (Buy). Some of the top-ranked stocks in the broader Medical sector are Allscripts Healthcare Solutions, Inc. (MDRX), athenahealth, Inc. (ATHN) and Medidata Solutions, Inc. (MDSO), all carrying a similar Zacks Rank #2.
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