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The $76 Billion CVS Business You've Probably Never Heard Of

Despite the fact that it brought in almost three times as much revenue as Nike last year, you probably haven't heard of CVS Caremark's (NYSE: CVS  )  "other" business -- the one that doesn't involve retail pharmacies on street corners, yet brought in the majority ($76 billion of $127 billion) of revenue last year. 

That business, which operates under a handful of names including, most notably, Caremark, helps healthcare payers deliver prescriptions more cheaply to patients. Since CVS' pharmacy services business is relatively unknown among big national companies, let's take a closer look.

Source: CVS Caremark

Connecting the dots
CVS' pharmacy services business is a pharmacy benefit manager, or PBM. Its clients include healthcare insurers and companies and organizations that self-insure employee healthcare plans.

The primary goal of PBMs is to save payers money. Much like a national footwear chain negotiates with Nike for the lowest price on its latest running shoe, PBMs leverage the buying power of many different companies to negotiate cut-rate deals with drugmakers.

Those deals allow insurers to deliver patients prescribed medicine for less than it would cost them if they negotiated with drugmakers directly; however, PBMs don't just orchestrate rock-bottom drug prices. They also provide other services including making sure patients use less-costly generics when they're available, mail order pharmacies which can deliver drugs at a lower cost, and management programs like Pharmacy Advisor, which helps ensure that plan members are adhering to their medication regiments, which can help reduce expensive hospitalizations.

Protecting its moat
In 2007, PBMs like Caremark, Express Scripts, and Catamaran were increasingly winning away prescriptions from pharmacies like CVS by delivering convenient, 90-day prescriptions directly to patient doors.

That threat helped prompt CVS to outbid rivals to acquire Caremark, one of the nation's largest PBMs.

The deal catapulted CVS forward; revenue jumped from $43 billion in 2006 to more than $132 billion over the trailing-12 months. CVS' operating profit has similarly climbed following the Caremark acquisition, growing from $2.4 billion in 2006 to $8 billion in 2013.

CVS Revenue (TTM) Chart

CVS Revenue (TTM) data by YCharts

Planning ahead
The cost of medicine is growing rapidly as new personalized drugs make their way through expensive clinical trials to market. This next generation of drugs aims to improve patient outcomes, but does so at a steep price.

Many new expensive drugs are coming to the market (think multiple sclerosis drugs Tecfidera and Gilenya), but it's Gilead's Sovaldi, an $84,000 treatment for hepatitis C that effectively cures more than 90% of patients taking it, that has become the poster child for the next generation of expensive medicine.

Source: CVS Caremark

While these therapies are exciting, they are also straining insurers caught between public demands for low monthly insurance premiums and rising expenses tied to prescribing these treatments. As a result, payers are seeking out strategies that lower costs and PBMs are responding with a slate of solutions, including programs designed to improve patient health.

As a result, PBMs like CVS' Caremark business are at the forefront in the battle to deliver patients the medicine they need at a lower price.

Fool-worthy final thoughts
While PBMs like the one run by CVS would seem to be in the sweet spot of rising drug spending, they still face heady challenges.

Lowering costs for payers means that PBM profit margins are thin, particularly given that drugmakers remain eager to earn top dollar for their medicine and insurers are laser focused on improving their own bottom lines.

Having said that, the ability to reduce the cost of drugs is front and center given that 10,000 baby boomers are hitting 65 every day and those over 65 typically fill twice the number of scripts per year compared to those age 45 to 54 years. With soaring healthcare costs likely to continue to pressure payers, PBMs like the one run by CVS may prove to be winners if they can deliver savings that justify clients sticking with them.

Read/Post Comments (2) | Recommend This Article (14)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On August 28, 2014, at 1:11 PM, SkepikI wrote:

    Todd: I am REALLY quite surprised that the "drive by" mention of Express Scripts survived your and your editors activity. Most disappointing. This is not something I expected from MF writers or editors.

    I get my prescriptions filled by Express Scripts and have high regard for most of their systems and operations. I've not been curious enough to find out their ownership. I do not know if they are private or a subsidiary of a larger investable enterprise, AND your article makes me no wiser on this point...sadly.

    This is exactly the sort of complete research and analysis I think I should expect from you, other MF writers and should expect your EDITOR to hold you accountable for. I don't expect the arcane or impossible to get detail...just the obvious....

  • Report this Comment On August 28, 2014, at 3:31 PM, jargonific wrote:

    CVS is a bully. They bullied brick and mortar store owners, forcing them to give them their customer lists. They are charged in some states with racketeering. Further, look at this nightmare: See drugs CVS Caremark and Express Scripts are restricting to save money... and HURT customers of course.

    Its HEALTH care not shoe lace manufacturing.

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Todd Campbell

Todd has been helping buy side portfolio managers as an independent researcher for over a decade. In 2003, Todd founded E.B. Capital Markets, LLC, a research firm providing action oriented ideas to professional investors. Todd has provided insight to a variety of publications, including SmartMoney, Barron's, and CNN/fn.

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