Peter Lynch is arguably one of the most prolific investors in history. The former manager of the Magellan Fund at Fidelity achieved 29% annualized returns for investors during his 13-year tenure.
There are a number of takeaways that helped to explain his career success. Chief among them is Lynch's contention that investors should be able to clearly explain why they own a stock to a child or they shouldn't own that stock at all.
CVS Health (CVS -0.22%) is a pharmacy chain and health insurer that I own in my portfolio. And I believe there are good, clear reasons for passive income investors to consider it for their portfolio right now. Let's dive in to see why.
Impressive all-around performance
At the heart of my investment thesis for CVS Health is this simple takeaway: because all people will eventually require healthcare in their lifetime, the need for CVS Health's products and services is predictable.
Earlier this month, the company shared its financial results for the third quarter ended Sept. 30. Strength in each of CVS Health's three core business segments resulted in tremendous top-line growth. The company's revenue surged 10% higher over the year-ago period to $81.2 billion during the quarter.
The healthcare benefits segment logged $22.5 billion in revenue for the quarter. For context, this was up 9.9% year over year. Thanks to the growing demand for health insurance, CVS Health's Aetna medical membership edged upward by 0.6% over the year-ago period. Along with premium increases that were passed on to members, this explains the high growth rate of the segment.
The pharmacy services segment recorded $43.2 billion in revenue in the quarter, which was a 10.7% year-over-year growth rate. As more patients are diagnosed with chronic medical conditions, more prescriptions will be required to treat these conditions. This is why CVS Health's processed pharmacy claims increased 3.6% over the year-ago period to 584.9 million during the third quarter. Coupled with growth in higher-priced specialty pharmacy products, this led to the double-digit revenue growth rate for the quarter.
Last but not least, the retail segment reported $26.7 billion in revenue in the quarter. This was a 6.7% year-over-year growth rate. Due to increased prescription volume, more foot traffic was drawn into the store to purchase CVS Health's products.
The company produced $2.09 in non-GAAP (adjusted) diluted earnings per share (EPS) during the quarter, which was a 6.1% lift over the year-ago period. Rising costs were responsible for a 15 basis point year-over-year decline in CVS Health's non-GAAP net margin to 3.4%. But this was partially offset by a 1.1% reduction in the company's outstanding share count to 1.3 billion shares. That's why the pace of CVS Health's adjusted diluted EPS growth was slower than its revenue growth for the quarter.
And analysts anticipate that the company's adjusted diluted EPS will compound at a 5.5% rate annually through the next five years. This is because the company accounted for nearly a quarter of the U.S. pharmacy market (24.5%) last year, which is well ahead of Walgreens Boots Alliance's 18% market share. CVS Health's much higher market share largely shields it from being displaced as the leader because the company's size and scale make it difficult for competitors to beat it on cost.
Image source: Getty Images.
The dividend is absurdly well-covered
With a current dividend yield of 2.2%, CVS Health is an above-average dividend payer compared to the S&P 500 index's 1.6% yield. And that isn't all. The stock's dividend could be positioned for robust growth in the years to come.
That's because it is projected that the dividend payout ratio will come in at approximately 25.6% in 2022. This modest dividend payout ratio should lead to more than enough capital being retained for future growth opportunities, debt repayment, and share repurchases. Because of this factor, I forecast respectable annual dividend growth of 7% to 8% from CVS Health over the medium term.
Bargain hunters may love the stock
CVS Health is a business that should do well moving forward. And the stock's current valuation doesn't fully price in its potential. The stock's trailing price-to-sales ratio of 0.4 is less than its 10-year median of 0.5. Given that the company's fundamentals are about as promising as they have been over the last decade, CVS Health could be a great stock for dividend investors.
