Why You Should Care About a CVS Health Corp Buyout of Aetna Inc

Word on the Street is that CVS Health Corp (NYSE:CVS) made an offer to buy Aetna Inc (NYSE:AET) for $66 billion. The move would help boost the company’s position — and by extension CVS stock — in the most important healthcare trend today: the slow integration of the system’s income, through insurance, and its outgo, through payments for drugs and services.

Companies that were early to make the connection, like Centene Corp (NYSE:CNC), were able to deliver care at Medicare prices and still make a profit. Its shares are up 376% in the last five years. UnitedHealth Group Inc (NYSE:UNH) made the connection by buying Catamaran, a Pharmacy Benefit Manager (PBM), and since that deal closed in June 2015, it’s up 77%.

UNH’s success gave it industry dominance. It’s now worth over three times more than second-place AET. That’s after Aetna’ spectacular gain on Oct. 26, a rise of $20-per-share, after word got out CVS might buy it.

This Makes Sense for CVS Stock

The deal shocked some people, but it makes sense in the wake of what happened at UnitedHealth. That company’s revenue growth has accelerated since it bought Catamaran, up 17% in 2016, and should top $200 billion in 2017. Earnings are now rising by double-digits each year.

The combination of CVS and AET would be even larger, about $60 billion in revenue, but potentially just as profitable. CVS stock would not only benefit from the company’s ability to run drug orders on Aetna plans through its Caremark PBM, but provide first-line care at its MinuteClinics, with which it already has contracts.

This is the kind of cost control Centene, and companies like it, have enjoyed for years. Medicare and Medicaid contracts deliver a set fee for health services, and an incentive to control costs. Centene has learned to do this with high-risk aging and poor people. Now those benefits can start filtering into the general market.

Chronic conditions like diabetes and heart disease represent 90% of healthcare spending, and integrating care has proven the best way to hold a lid on these costs.

Profits Best of All

The political battles over healthcare have been about who pays — the government or patients? Insurers have mainly been bystanders, passing along higher costs, typically with margins in the high single-digits.

For the three months ending in June, for instance, AET earned $1.2 billion on revenue of $15.5 billion. By comparison UnitedHealth earned $3.8 billion on revenue of $50.3 billion. CVS, by contrast, earned just $1.1 billion on revenue of $46.6 billion.

Being an insurer, in short, is more profitable than just selling health products and services. Margins could even increase if CVS were able to direct Aetna customers to its PBM, its drug stores and its clinics. The way would even be clear for it to start making inroads into acute care, buying well-run clinics or even hospitals, and directing patients to networks where it can control costs.

The Bottom Line for AET and CVS

In the immediate wake of the bid announcement, CVS stock dropped 3%, and opened for trade Oct. 27 at about $77.50, a below-market price-to-earnings ratio of just 14.6. The P/E of UNH, by contrast, is 23.

It will take time to close on Aetna, but given the UNH purchase of Catamaran, there should be no difficulty. Integrating the two companies will also take time, but as noted they already have a business relationship.

What comes next for the industry is a continuation along the road Centene and UnitedHealth have paved. The providers of healthcare services are coming under the sway of the people who pay, and patients will reap the benefits, as incentives to control costs finally kick in.

Dana Blankenhorn is a financial and technology journalist. He is the author of the historical mystery romance The Reluctant Detective Travels in Time, available now at the Amazon Kindle store. Write him at danablankenhorn@gmail.com or follow him on Twitter at @danablankenhorn. As of this writing he owned no shares in companies mentioned in this article.

Article printed from InvestorPlace Media, https://investorplace.com/2017/10/cvs-health-corp-buyout-aetna-inc-aet/.

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