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5 Must-Read Comments From CVS Health's Executive Team

By Brian Feroldi - May 14, 2016 at 9:07AM

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Here are the top takeaways from the company's first-quarter earnings call.

Image source: CVS Health.

CVS Health (CVS 0.52%) recently reported its first-quarter 2016 financial results, and the headline numbers looked solid. Revenue jumped more than 18% year-over-year to $43.2 billion, and adjusted earnings per share came in at $1.18, topping management's guidance range by a penny.

While a quick glance at the results looked good, it's still important for shareholders to hear the company's investor call so they can get a more detailed look at how the business is performing. With that in mind, here are five key takeaways from the investor call that all CVS Health shareholders should know.

1. Our pharmacy benefits management business is on fire...

Although most consumers are more familiar with CVS Health's retail pharmacy stores, the lion's share of its revenue actually comes from its pharmacy benefit management business. This division helps governments, employers, unions, and other institutions lower their pharmacy costs, and the business is performing wonderfully.

Revenue from the PBM division came in at $28.8 billion for the quarter, 20.5% higher than in the same quarter in 2015. While the growth was primarily driven by last year's $12.7 billion Omnicare acquisition, the company also saw healthy market share gains from its specialty pharmaceutical business and an overall increase in volume.

Here's CVS Health CEO Larry Merlo giving investors more color on how the company's PBM business is performing:

Since our last update, the expected revenue impact for 2016 has grown, with gross new business at $15.2 billion, net new business of $13.1 billion, both up about $400 million from our last update. The vast majority of this increase relates to a new health plan client, which will increase our revenues in both 2016 and 2017. We also closed out the 2016 selling season with a retention rate of 97.3%.

He also went on to say that the company is seeing more requests for proposals, or RFPs, than it did in the year-ago period, which bodes well for this division's continued growth.

2. ...and our retail stores are performing well, too

Sales from CVS Health's retail empire grew a strong 18.6% in the quarter and came in at more than $20 billion. Once again, acquisitions played a major role in the growth: CVS' $1.9 billion purchase of Target's pharmacy and clinic business last year expanded its footprint count by more than 20%. However, acquisitions weren't the only growth driver, as same-store sales ticked up by 4.2% during the quarter. 

The main growth driver of CVS's same-store sales growth appears to be prescription volume growth as the company continues to peel away market share from competitors like Rite Aid (RAD -2.52%)

Here's CEO Merlo again giving more details on the company's retail store performance:

Pharmacy comps were positively affected by about 130 basis points related to the extra leap day and pharmacy same-store prescription volumes increased 5.9% on a 30-day equivalent basis, continuing to outperform overall market growth. In our Retail Pharmacy market, share on a 30-day equivalent basis was 23.9% in Q1, and that's up about 245 basis points versus the same quarter a year ago. 

For comparison, same-store sales at Rite Aid decreased by 0.6% last quarter, driven by a 0.8% decline in pharmacy sales. That could be caused by the company's management team being distracted by its pending merger with Walgreens Boots Alliance; Rite Aid is still expecting the deal to close later this year. 

3. Declining margins are holding back our profitability growth

With revenue growth from its two main business segments up so much, you might assume that earnings would also take a significant jump forward. That didn't happen, as the adjusted earnings per share of $1.18 was only up about 4% compared to the year-ago period.

Image source: CVS Health.

Management stated that the company's profitability is being held back by a combination of lower gross margins and acquisition-related costs.

Here's CFO Dave Denton giving investors more details about the declining margins in its PBM business:

Within the PBM segment, gross margins contracted by approximately 45 basis points versus Q1 of 2015 to 3.8%, primarily due to the mix of new business and price compression, partially offset by the GDR improvement and favorable purchasing economics. 

CFO Denton also provided more color on its retail division margin performance:

Gross profit dollars increased approximately 10% year-over-year in the Retail/Long-Term Care segment, while gross margin declined approximately 225 basis points to 29%. Now about 40% of the decline in the gross margin rate was mix-driven due to the inclusion of the Omnicare and Target businesses that we acquired. The decline in gross margin was also due to continued reimbursement pressures. 

4. Our acquisition integrations remain on track

Management previously commented that although converting all of the Target stores to CVS Health's branding was consuming a lot of the company's internal resources, the conversion should be completed by the middle of 2016.

Here's CEO Merlo's most recent update on how the conversions are progressing:

As of the end of April, about half of the 1,670 acquired pharmacies have been successfully converted to the CVS pharmacy brand and systems. As planned, we expect that all store conversions will be completed by the end of this summer.

5. We are poised for a year of strong growth

With the company executing on its growth plans, management reaffirmed its adjusted earnings per share guidance range of $5.73 to $5.88 for the full year. That represents a growth rate of 11% to 14% over 2015 results and implies that profitability will pick up strongly in the back half of the year.

CFO Denton also gave some details about how CVS took advantage of its weak first-quarter share price performance: 

Between dividends and share repurchases, we've returned approximately $2.5 billion to our shareholders in the first quarter alone. Looking forward to the remainder of the year, we continue to expect to repurchase an additional $1.8 billion worth of our stock, completing the planned $4 billion in repurchases for the full year. 

In total, CVS Health had a great quarter and has a solid plan in place to continue to grow from here. For that reason, I continue to think this company's stock is a great choice for any investor looking to increase their exposure to the healthcare sector. 

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